Tuesday, 11 March 2008

There is no containment

An oft repeated platitude by simple minded fools is that outside financials, retail and housing, US corporate earnings are fine. That's like saying outside of my broken leg, the persistent migraine headaches and my diabetic condition, I'm in tip top shape.

No doubt there will be companies that manage to grow right through the current US recession, there are always exceptions. However, as global growth slows in response to a slowing US economy, expect to see more companies revise earnings downward. From Bloomberg:

Texas Instruments Reduces Forecasts; Shares Decline

Texas Instruments Inc., the second- biggest maker of chips that run mobile phones, cut its first- quarter revenue and profit forecasts, a sign that demand for the latest handsets is cooling as the economy slows.

Texas Instruments fell as much as 6.9 percent in extended trading after predicting sales of as little as $3.21 billion, trailing a January forecast for at least $3.27 billion. Profit will be as little as 41 cents a share instead of 43 cents.

Demand for chips used in phones that can download music and access the Internet was lower than expected, Vice President Ron Slaymaker said. Analysts including John Lau at Jefferies & Co. in New York said cutbacks at Nokia Oyj, the world's largest maker of handsets and Texas Instruments's biggest customer, caused the shortfall in wireless orders.

``The speed at which the change in forecast has occurred and its magnitude is worrisome,'' Lau, who rates the shares hold, said in an interview. ``This is definitely something that has to be watched.''

Texas Instruments, based in Dallas, fell as low as $27.60 in extended trading after closing at $29.65 in New York Stock Exchange composite trading. The stock has lost 11 percent this year.

Click on the link for the full story. The part in bold is my emphasis. I expect there will be more abrupt changes in earnings forecasts from a variety of industries as the year wears on. As repeated ad nauseum here, corporate earnings expectations are still way too high.

There is a perception on Wall Street that the second half of 2008 will see a turn around for stocks as a combination of fiscal stimulus and interest rate cuts kick in and spur economic growth. It appears much of Wall Street's earnings expectations are contingent on this outcome.

I would ask those that buy into this scenario to consider previous earnings cycles. For example, S&P500 operating earnings peaked in June 2000. They bottomed a year later in June 2001 and did not recover to previous highs until December 2003, more than 3 years later.

Go back to the recession before that, earnings peaked in June 1989, earnings did not recover to those levels until June 2003, a full 4 years later. In the current earnings cycle corporate earnings peaked in June 2007, currently forecasts expect June 2008 earnings to be setting new records. That would be the fastest earnings recovery in the last 20 years.

As always I don't rule out any possible outcome but simply try to point out what is probable. What is very probable is that earnings will not recover to record levels in 2008 and that forecasts will continue to be slashed as the year wears on.