What Declining Earnings Continue to Tell Us

Screen-Shot-2014-06-02-at-4.54.06-PM‘Tis the season. Earnings season, that is, and I don’t think we’re getting any presents.

This week Alcoa kicked off the third-quarter earnings announcement season. The next couple of weeks will bring an onslaught of numbers, excuses, deflections, and projections. Company spokesmen and CEOs will spend time explaining why their industry is soft, and how better times are just ahead.

If only we remove those sticky one-time events that seem to happen every quarter, they say, we’ll realize that the core business is quite healthy, and things are looking up!

I’ve got a better idea. Rather than listening to the talking heads, we should simply review the results.

Taken as a whole, things aren’t terrible. But they aren’t very promising, either. We’re struggling just to get back to where we were two years ago.

At the start of this year, the consensus estimate was for the earnings of the companies in the S&P 500 to turn positive in the second quarter. U.S. companies suffered a dismal fourth quarter in 2015 that carried over to the New Year, but surely things would get better in short order.

They have, but not by much.

Taking Two Steps Back

According to FactSet, we’re staring down the sixth consecutive quarter of lower year-over-year earnings. This marks the first time this has happened since the company began to track earnings in the third quarter of 2008.

Last year, energy companies contributed to much of the decline. With the price of oil falling out of bed through most of 2015 and fracking all but shut down, energy companies gushed red ink.

The carnage was supposed to stop when oil rebounded, but that hasn’t happened. Oil climbed more than 50% higher from the end of last year, and yet energy company earnings are expected to fall 63% this quarter.

But that’s not the only suffering sector. Analysts cut their earnings estimates for materials, real estate, and consumer discretionary companies.

If earnings are reported as expected, we will have climbed back to levels first seen in the summer of 2014.

It sounds dismal, because it is. Yet the equity markets are near all-time highs. It’s as if stock prices are celebrating, even though companies are struggling to make progress.

Recently Nike surprised the markets with better-than-expected earnings, but then disappointed with their forward guidance.

Essentially, the company said things seemed pretty good lately, and enjoyed a boost from the Rio Olympics. However, they didn’t think the good times would last. These are interesting words, coming from a retail company that typically does well in the fourth quarter due to holiday sales.

But don’t worry!

Everything is fine, right?

Analysts estimate earnings will pop 13% in 2017, so the good times will finally be here again.

I’ll believe it when I see it.

Nothing Can Last Forever

There’s also the little matter of stock buybacks. Once the province of failing companies that were eager to shore up their price-earnings ratios by taking shares out of the market, stock buybacks have been all the rage since the financial crisis of 2008.

Companies are using their cash stockpiles and debt (courtesy of exceptionally low interest rates) to retire stock by the truckload. In the first quarter of this year, companies in the S&P 500 spent more than $150 billion to buy back their shares. They have spent more than $2 trillion on their own stocks since 2011.

When dividends are included with stock buybacks, companies in the S&P 500 have paid investors 112% of what they made in the first half of 2016. To put it mildly, that’s unsustainable.

These three trends – falling earnings, stock buybacks, and equity market gains – make for an interesting paradox. Companies are telling us in no uncertain terms that growth remains elusive and they can’t find a good use for cash. Yet stock buyers keep pushing up share prices.

Once again, I’m reminded of the old quote by economist Herbert Stein: “If something cannot go on forever, it will stop.”

After seven years of growth based on shaky fundamentals, trillions of dollars in stock buybacks, and central bank action, equity markets are at risk. Make sure you have a plan for when that “something” that can’t go on forever, finally stops.

rodney_sign

Rodney

Follow me on Twitter @RJHSDent

P.S. Don’t forget to join me, the Dent Research team and other financial luminaries like David Walker and Lacy Hunt next week at the Irrational Economic Summit in Palm Beach, FL. I look forward to seeing you there. And if you can’t make it to the PGA National Golf Resort from October 20-22 to take in our presentations and mingle in person, make sure to watch online via our LIVE Stream.

What You Need to Know About the Safe-Asset Slaughter!

You’re not going to believe what’s on the horizon…

The final bubble of the recent financial crisis is about to burst. When it pops – it could be as soon as November 2014 – millions of Americans will be financially devastated… But others will have the opportunity to get much richer.

This controversial video reveals how you can end up on the winning side of the coming carnage…

Click to Learn More
Categories: Purchasing Power

About Author

Rodney Johnson works closely with Harry Dent to study how people spend their money as they go through predictable stages of life, how that spending drives our economy and how you can use this information to invest successfully in any market. Rodney began his career in financial services on Wall Street in the 1980s with Thomson McKinnon and then Prudential Securities. He started working on projects with Harry in the mid-1990s. He’s a regular guest on several radio programs such as America’s Wealth Management, Savvy Investor Radio, and has been featured on CNBC, Fox News and Fox Business’s “America’s Nightly Scorecard, where he discusses economic trends ranging from the price of oil to the direction of the U.S. economy. He holds degrees from Georgetown University and Southern Methodist University.