One of the main Bullish arguments has been that very strong Earnings are not signalling a major slowdown.
I find that argument disingenuous. Earnings have been very strong on a year over year basis; but they have also been disproportionately concentrated in a few sectors (Energy, Materials) and partially engineered through dramatic share buybacks.
Marketbeat looked at some details last week, and came up with this:
So, it was a good quarter for earnings, right? Not necessarily, if you look at the entire spectrum of publicly traded companies. Sure, the S&P 500, with more than 97% of companies reported, has posted earnings growth of about 13%, marking yet another quarter of double-digit earnings growth. However, looking further down, the picture isn’t quite as positive.
The Wall Street Journal’s industry-by-industry quarterly earnings page (available here) shows that, with more than 3,700 companies reporting, net income growth on a year-over-year basis was up 12% in the second quarter, compared to 19% year-over-year growth in the first quarter (with more than 4,100 companies considered).
However, the growth in the first quarter was much broader than in the second, when energy and financials ruled the roost. Energy companies have recorded 50% growth in net income, while financials grew by 19%. Exclude those two groups, and net income is down 1.1%, in part due to significant dropoffs in basic materials (down 12%), consumer goods (off 11%), health care (37% lower) and technology ( down 4%), and a 13% decline in telecommunications.
It didn’t look this way in the first quarter. While it is true that energy and financials rocked there too (up 44% and 13%, respectively), when taking those out, net income for the remaining companies rose 17%.
This pattern doesn’t hold with the companies in the S&P 500. All of S&P’s 10 main sectors are showing income growth on a year-over-year basis in the second quarter, according to Thomson First Call; health care and technology are the laggards, with 9% growth.
"When you look at the S&P 500, bottom line, it’s not bad, and across the entire spectrum it’s an up quarter," said Vinny Catalano, president of Blue Marble Research. "But when you get into the mid- and small-cap issues, as these data show, you really had a collapse…second-tier issues have deteriorated." (emphasis added).
As we noted a few weeks ago (Rotation Underway: S&P100 to S&P600), the Big Cap stocsk have (finally!) begin to outperform the smaller caps.
The above earnings discussion helps to explain why.
UPDATE: August 28, 2006 12:45
The Capital Spectator makes some interesting observations about earnings:
"Last year, income advanced nearly 23% over 2004, making the year one of the more remarkable 12-month stretches in corporate history. Curiously, the stock market reacted rather sheepishly, with the S&P 500 climbing only 4.9% last year. Perhaps it’s not so curious after all. The stock market is widely credited with looking ahead. Sometimes it sees things that don’t materialize, but in 2003 and 2004 its powers of prognostication were prescient, or so the S&P’s 29% and 11% total return for each of those years, respectively, suggests.
Indeed, earnings continue to impress relative to the past. But the fuel that powers those earnings–rising corporate income–is showing signs of slowing. For this year’s first quarter, corporate income slowed considerably relative to the year-earlier quarter, rising by 13%, as the chart above reveals."
About Those Earnings
David A. Gaffen
WSJ, August 25, 2006 12:02 p.m.