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I have described this earnings period as an important third hurdle (out of three) to get the stock market back on track. What should we watch for, and what would make this earnings season a successful one?

First, Why Are This Quarter’s Earnings Reports So Important?

For many companies, earnings “growth” over the past quarters has had a large element of recovery and restructuring benefits mixed in. While these items won’t disappear from earnings, they are likely to contribute less to growth. In other words, this quarter could see more of the “normal” drivers affecting earnings growth – e.g., revenue increases, operating leverage and capital spending payoff.

How these items exhibit themselves and management’s review and outlook should give us a good sense of what could be in store for 2011.

What About Those Recent 2011 Earnings Estimate Cuts?

There has been concern that companies and analysts are trimming earnings estimates. However, recent articles are odd and oddly written. The oddest is Bloomberg’sS&P 500 Profits Cut for First Time in Year by Analysts” (By Lynn Thomasson, Whitney Kisling and Inyoung Hwang, October 4).

Sounds ominous, but it isn’t. The “cut?” From an “August high” of $96.16 to “as low as” $95.17 last month (AKA September). Bloomberg surveys 8,500 analysts to get those numbers, so there is bound to be movement based simply on the number and timing of the responses. Picking out a short-term high and low is more a measure of survey noise than true direction – especially when the “cut” is only 1%.

The fact that makes this and the many follow-on articles non-starters is that the Standard & Poor’s (S&P) 500 Stock Index estimated earnings growth from 2010 to 2011 is still 15%.

How About the Dow Jones Industrial Average (DJIA)?

Since last quarter’s earnings reports (the first hurdle), there have been estimate adjustments – generally small and in both directions. Over the past four weeks (through Friday, October 1):

  • 2010 estimates: Increased for 9 companies and decreased for 11. Overall, the DJIA 2010 earnings estimate total rose 0.24% from $828 to $830.
  • 2011 estimates: Increased for 6 companies and decreased for 10. Overall, the DJIA 2011 earnings estimate total dropped 0.45% from $933 to $929.
  • Estimated earnings growth from 2010 to 2011 decreased from 12.7% to 11.9%.

Importantly, the last two quarters had unusually light trimming leading up to very good earnings announcements. This quarter’s trimming is looking more normal. That is definitely nothing to fret about. “Normality” should be welcomed as it reappears – in all its forms.

The Upcoming Schedule

Below is a visual reporting schedule for the DJIA companies.


(Click to enlarge)

Early Signs to Watch For

There are interesting developments that could find their way into the early earnings reports and management commentaries. In fact, the first three companies might well set the tone for what’s to come:

  1. Industrial commodity prices have been rising recently (e.g., copper and aluminum). Alcoa (AA) could help us better understand how basic manufacturing is doing.
  2. Computer chip production and technology in general have been under a cloud, yet capital spending is up and chip sales rose in August. Intel (INTC) participates in many developed and developing technologies, so it can provide a good window on what’s happening.
  3. Uncertainty about where the banks and the financial industry are heading remains high. JP Morgan (JPM) is an important participant and, therefore, a good source of information.

So… The third hurdle is near. Earnings stumbles won’t necessarily trip up the stock market. However, clearing this hurdle could be a significant sign that US stocks are back as a sound investment. Given the underweight positions by many investors, “normal” earnings growth could produce abnormal gains as money flows back into US stocks. (Particularly with the likes of Goldman Sachs announcing that now is the time to do so. See “/Quick Point/ – Goldman Sachs Says Sell Bonds, Buy Stocks.” )

Disclosure: Client positions: BA,CAT,INTC,MRK,KO,MRK

Source: Fall Earnings Season Starts: What to Watch For