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Decline In Profits Leads Index

Written by admin | Jun, 25, 2013

sp500-vs-profits-072511

This coming week will host a complete flood of earnings from corporations.   While most are expected to beat estimates the reality is that most are actually missing estimates.  What?

See the problem is that no one pays attention to where the original estimates were at the beginning.   For most companies estimates have been lowered as we have gotten closer to earnings season and, low and behold, companies beat their respective, but lower, hurdles.  It’s all fun and games for Wall Street, and for investors, until someone gets hurt.

On Friday, I was on Fox Business Bulls & Bears, discussing the outlook for the market.   The hosts were trying to make the claim that since the market rallied for the week the “outlook” for the rest of the year must be very positive.   The point I didn’t get to make with them was that while on a short term basis the market is bullishly biased the longer term outlook can not be judged by a one week movement.

With year over year declines in GDP, high unemployment and less impact from fiscal stimulus the economy is slowing.   Stocks are a reflection of the economy as a whole and can not stay disconnected for long.   This takes us back to the profit margin issue.   Companies are beating estimates, again lowered, which on the short term can give speculators a reason to push stock prices up.  However, the year over year changes in those profits are declining.   As you will notice in the chart the stock market lags those changes in profits and prices do adjust to reality.

The point here is that the outlook for the market in the future is weaker – not stronger.   Which is why, for the time being until our indicators tell us differently, we recommend a more cautious stance in portfolios.   Higher levels of cash, overweight fixed income and underweight stocks particularly higher volatility, speculative, issues.

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