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Market Commentary – October 11, 2011

It’s Earnings Season! How About a Breather?

Concerns out of Europe, increased Middle East violence, and a ho-hum domestic economy have provided investors a plethora of bad news lately. Not surprisingly, since reaching year highs, many of the major U.S. equity indices approached so-called “bear market status.” By definition, bear market status is a peak to trough decline in an index of 20 percent or more. With all of this bad news lingering, why not run for hills? Well, offering a possible breather to poor market sentiment and a likely contributor to last week&rsqo;s sharp stock market gains is the commencement of the corporate earnings season.

Four times per year, the corporate earnings season runs about four to six weeks starting around two weeks after the close of the traditional calendar quarter. During these weeks, company management announces their most recent quarter’s results in terms of sales and profits. They also generally provide future growth projections and areas of opportunity. Traditionally, the kickoff of earning season begins with Alcoa (AA), which released results on the afternoon of October 11.

As shown in the table below, analysts are expecting another solid quarter of double-digit earnings results.

Year-over-year S&P 500 earnings growth
Q1 +18.9% actual
Q2 +12.1% actual
Q3 +12.7% consensus estimate
Q4 +14.4% consensus estimate
source: Morgan Stanley Smith Barney; as of 10/7/2011

While the consensus is expecting another solid quarter of results from Corporate America, what are we focusing on? In addition to watching the broad trend of whether or not companies are beating their earnings estimates, we are paying special attention to revenue growth, European exposure, and comments about the future.
  • Revenue Growth – During the past couple of years in a tepid economic environment, companies have generated solid earnings growth by effectively managing costs and improving efficiencies to raise profit margins. Companies can only do this for so long. Sooner or later they will need improving sales growth (within a lukewarm global economy) and we plan to pay particular attention to management comments around this topic.
  • Exposure to Europe – We sell a lot of goods outside the U.S. as nearly 50% of S&P 500 company profits are generated by exports. Given the concerns in Europe and a possible ensuing recession, management comments about European exposure will be closely scrutinized.
  • Forward-Looking Statements – We are in an economic environment characterized by below-average growth for the foreseeable future. Management comments regarding business conditions and growth opportunities will be very important to gauge financial market reaction.

While earnings season starts this week, bear in mind that this first week tends to be limited in the number earnings releases and may not provide solid signals of the strength in Corporate America. Also, many companies have already offered earnings guidance prior to the start of earnings season. As of September 30, 2011, 70 companies in the S&P 500 issued negative guidance, while 38 companies offered positive guidance. More importantly, we will get a better gauge late this month as more influential industry leaders report their quarter-end results.

Whether we get good or bad news from companies in the next few weeks, earnings season offers investors a breather from the stacks of bad news that we have seen over the past couple of months. Regardless of the earnings season outcome, we expect market volatility to be elevated as investors balance good and bad news. As we have noted numerous times, in these periods of elevated volatility, we suggest a bias towards investments that may help mitigate this volatility – dividend-paying equities, defensive equity sectors, corporate bonds, and alternative strategies.


This information is compiled by Cetera Financial Group from source material obtained or provided by US federal and state departmental websites, equity index sponsors Standard & Poor’s, Dow Jones, and NASDAQ, credit ratings agencies Standard & Poor’s, Moody’s Ratings, & Fitch Ratings, domestic and foreign corporate issued newswires and press statements, and from referenced compilations and index readings by Bloomberg Professional. The information is believed to be from reliable sources; however, we make no representation as to its completeness or accuracy. The information has been selected to objectively convey the key drivers and catalysts standing behind current market direction and sentiment.

No independent analysis has been performed and the material should not be construed as investment advice. Investment decisions should not be based on this material since the information contained here is a singular news update, and prudent investment decisions require the analysis of a much broader collection of facts and context. All economic and performance information is historical and not indicative of future results. Investors cannot invest directly in indices. This is not an offer, recommendation or solicitation of an offer to buy or sell any security and investment in any security covered in this material may not be advisable or suitable. Please consult your financial professional for more information.

While diversification may help reduce volatility and risk, it does not guarantee future performance. Additional risks are associated with international investing, such as currency fluctuations, political and economic instability, and differences in accounting standards.

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