By: Jeff Cox
CNBC.com Senior
Writer
-
Google's stunning earnings
disappointment on Thursday is a dramatic example of what has become Wall
Street's latest worry: revenue is coming in much worse than anyone thought.
Tony Avelar |
Bloomberg | Getty Images
Overall this earnings season,
third-quarter profits have managed to be a shade better than the doom-and-gloom
forecasts.
But company top lines—or the
revenue generated that should be driving those bottom-line profit beats—have
been even worse this quarter than they were last.
Google
[GOOG 681.79 
-13.21 (-1.9%)
]
, which released results earlier than expected due to a printer error, showed
that the Internet-search giant missed on both sales and profits. (Read more:
Google Reports Big Earnings
Miss)
The Google results sent the
broader market lower, though the damage was most pronounced on the Nasdaq, which
lost 1 percent. (Read More: Nasdaq
Tumbles on Google Selloff)
CEO Larry Page apologized on the
company's earnings conference call and talked about the firm's "strong
quarter."
Google's misfortunes raised
questions of whether it could be a market game-changer.
With about one-third of the
companies on the Standard & Poor's
500
[.SPX 1433.19
-24.15 (-1.66%)
]
reporting so far, a healthy 65 percent have beaten the low bar set
for profit expectations in the third quarter.
But while that has been happening,
just 42 percent have topped revenue forecasts.
That is well below the historical
average of 62 percent and even worse than the anemic second quarter, which saw a
sales beat of just 44 percent. The market has flatlined so far during
earnings.
Investors have shown a tendency as
the economy works its way back from the financial crisis and ensuing recession
that ended in 2009 to reward companies growing revenue and penalize those who
fall short even if they beat on profit.
"We think focus will be on the
top-line, which was rewarded most for positive surprises last quarter," said
Savita Subramanian, equity and quant strategist at Bank of America Merrill
Lynch. "With cost structures already lean, sales growth is increasingly
important for companies’ ability to grow earnings." (Read More: Earnings Look Better So Far, but Market May Not
Care)
Keeping with that line of
thinking, the pros at Strategas are advising investors that, based on current
trends, the best bet will be to go defensive.
The firm said that when earnings
pull back to these levels, economic
growth usually takes more than three quarters to
rebound.
They recommend a portfolio mix of
long technology staples, consumer staples and health care, and short consumer
discretionary.
"With the market down from its
September high, defensive shares have retaken leadership relative to cyclicals
over the past month," Strategas' Nicholas Bohnsack and Emily Jones said in a
note. "We remain in favor of a more defensive allocation for the intermediate
term."
CNBC.com Senior Writer
Google's stunning earnings
disappointment on Thursday is a dramatic example of what has become Wall
Street's latest worry: revenue is coming in much worse than anyone thought.
|
|
Tony Avelar |
Bloomberg | Getty Images
|
Overall this earnings season,
third-quarter profits have managed to be a shade better than the doom-and-gloom
forecasts.
But company top lines—or the
revenue generated that should be driving those bottom-line profit beats—have
been even worse this quarter than they were last.
Google
[GOOG 681.79
-13.21 (-1.9%)
]
, which released results earlier than expected due to a printer error, showed
that the Internet-search giant missed on both sales and profits. (Read more:
Google Reports Big Earnings
Miss)
-13.21 (-1.9%)
]
, which released results earlier than expected due to a printer error, showed
that the Internet-search giant missed on both sales and profits. (Read more:
Google Reports Big Earnings
Miss)
The Google results sent the
broader market lower, though the damage was most pronounced on the Nasdaq, which
lost 1 percent. (Read More: Nasdaq
Tumbles on Google Selloff)
CEO Larry Page apologized on the
company's earnings conference call and talked about the firm's "strong
quarter."
Google's misfortunes raised
questions of whether it could be a market game-changer.
With about one-third of the
companies on the Standard & Poor's
500
[.SPX 1433.19
-24.15 (-1.66%)
]
reporting so far, a healthy 65 percent have beaten the low bar set
for profit expectations in the third quarter.
-24.15 (-1.66%)
]
reporting so far, a healthy 65 percent have beaten the low bar set
for profit expectations in the third quarter.
But while that has been happening,
just 42 percent have topped revenue forecasts.
That is well below the historical
average of 62 percent and even worse than the anemic second quarter, which saw a
sales beat of just 44 percent. The market has flatlined so far during
earnings.
Investors have shown a tendency as
the economy works its way back from the financial crisis and ensuing recession
that ended in 2009 to reward companies growing revenue and penalize those who
fall short even if they beat on profit.
"We think focus will be on the
top-line, which was rewarded most for positive surprises last quarter," said
Savita Subramanian, equity and quant strategist at Bank of America Merrill
Lynch. "With cost structures already lean, sales growth is increasingly
important for companies’ ability to grow earnings." (Read More: Earnings Look Better So Far, but Market May Not
Care)
Keeping with that line of
thinking, the pros at Strategas are advising investors that, based on current
trends, the best bet will be to go defensive.
The firm said that when earnings
pull back to these levels, economic
growth usually takes more than three quarters to
rebound.
They recommend a portfolio mix of
long technology staples, consumer staples and health care, and short consumer
discretionary.
"With the market down from its
September high, defensive shares have retaken leadership relative to cyclicals
over the past month," Strategas' Nicholas Bohnsack and Emily Jones said in a
note. "We remain in favor of a more defensive allocation for the intermediate
term."
Earnings Look Better So Far, but Market May Not Care
Published: Monday,
15 Oct 2012 | 1:03 PM ET
Text Size 
By: Jeff Cox
CNBC.com Senior Writer
CNBC.com Senior Writer
Earnings season may not be as weak
as analysts had initially projected, but the bad news is that may not be good
enough to cheer investors.
 |
|
Getty
Images
|
Though this quarter's reporting
cycle is not yet a week old, the initial results have been encouraging: Of the
35 companies that gave results last week, the average growth rate was 8.2
percent, well above expectations that corporate profits actually contracted
about 2.1 percent.
Numbers at big banks, which are
the focus of the early reports, topped expectations and already have given rise
to hopes that the rest of the Standard & Poor's 500
[.SPX 1433.19
-24.15 (-1.66%)
]
companies would follow suit.
-24.15 (-1.66%)
]
companies would follow suit.
"Mark my words, the S&P 500’s
earnings growth rate will not turn negative during 3Q 2012 earnings season and
anyone who says it will has not been following the early reporters very
closely," said Nick Raich, director of research at Key Private Bank in
Cleveland.
Maybe so, but initial reaction has
been less than enthusiastic to this bit of muted good news.
Last week, the stock market had its
worst loss since the summer rally began in early June, penalizing JPMorgan
Chase
[JPM 42.32
-0.69 (-1.6%)
]
and Wells
Fargo
[WFC 34.34
-0.23 (-0.67%)
]
even though both Wall Street titans posted record earnings.
Investors worried over net interest margins and forward guidance.
-0.69 (-1.6%)
]
and Wells
Fargo
[WFC 34.34
-0.23 (-0.67%)
]
even though both Wall Street titans posted record earnings.
Investors worried over net interest margins and forward guidance.
Monday's action was somewhat
better, with stocks
gaining after a seemingly positive report from
Citigroup
[C 37.16
-1.26 (-3.28%) ]
, whose stock has been ripping higher in recent months as the
company clears the detritus of the 2008 financial crisis from its books.
-1.26 (-3.28%) ]
, whose stock has been ripping higher in recent months as the
company clears the detritus of the 2008 financial crisis from its books.
In the big picture, the market
both may be unimpressed with the future earnings outlook and
unconvinced of the initial numbers to get much optimism from early beats.
A clearer earnings picture —and
the market's reaction — will emerge this week when about 27 percent of the
S&P 500 reports.
"In recent months investors have
shrugged off this prospect (of weak earnings) and sought solace in the
(Federal
Reserve) and the (European Central Bank),"
said John Higgins, senior markets economist at Capital Economics "But history is
not on the side of those who expect the market to continue to prosper once the
earnings cycle has turned."
Capital is maintaining a 1,350
target on the S&P 500 by year's end, a price that would represent about a
5.5 percent drop from the current level.
"Even if we are wrong about a turn
in the earnings cycle and the profit share continues to rise, the stock market
may still fall if investors become averse to risk," Higgins said. He compares
the current economic recession to the climate
following the second leg of the Great Depression in 1937-38 when the winds of
World War II "trumped an improvement in profits at home."
"The current weakness of the
global economy and a potential break-up of the euro-zone cannot be equated with
a world war," he said. "But they could still put the U.S. stock market on the
back foot."
Indeed, continuation of the
better-than-expected results is not reflected in analyst sentiment.
Earnings revisions —
analysts changing their views up or down on company results — continued to trend
negative broadly and in particular for the telecommunications and industrials
sectors. Energy stock revisions had been on balance positive but turned
negative, with financials and consumer staples leading S&P sectors on the
positive side, according to Bespoke Investment Group.
Overall, the trend of five
negative revisions to four positive is the worst since 2001, according to
Strategas Research Partners.
"Company outlooks for the coming
year will be of utmost interest, and we believe that estimates for the fourth
quarter and 2013 should come down, which could cause volatility in the near
term," strategists at Charles Schwab said in a report Monday.
Investors are especially focused
on the future prospects of banks, which face increasing regulation as the
Dodd-Frank
rules kick in.
"Financial stocks overall remain
historically cheap on book value, but reasonably expensive on earnings," Fred
Cannon, bank analyst at Keefe, Bruyette & Woods, said in a note. "We believe
that in this environment forward earning estimates revisions will be key to
stock performance."
Analyst revisions could be of
particular importance with earnings expected to rebound into the end of the year
from the lackluster third quarter.
Analysts earlier in the year also
had been forecasting a strong third quarter, then had to temper their
expectations as economic growth slowed.
"We believe that the earnings
estimate revisions will have a significant impact on financial stocks for the
remainder of the year," Cannon said. "Overall, stock prices have fared better
than estimate revisions but have had a close directional impact."
—By CNBC.com’s Jeff Cox
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