11 Apr 2003 If It’s Not One Thing It’s Another
Seemingly, the war and its commensurate uncertainties no longer hold such sway over the market. However, that could change in a moment. Focus has shifted to factors investors are more accustomed to addressing, like earnings. The season when companies report their quarterly earnings is upon us. So far, 33 companies that comprise the S&P 500 index have reported. The next two weeks are the busiest of the season with over 300 large companies reporting their first quarter earnings. Outside of General Electric today and Yahoo! this past Wednesday, there were no earthshaking earnings reports this week.
Investors seem to understand that war and bad weather were to blame for earnings disappointments in some industries while they ignore it in others. Many of the large retailers who have reported so far have been given a pass on their weaker than expected numbers. On the other hand, software companies such as healthcare software provider, Cerner and business application developer, Cognizant were punished by rather severe declines in their stock prices. Cognizant doesn’t report earnings until the 21st of this month yet the stock dropped 12% yesterday when one of its competitors surprised investors with a weaker than expected earnings report.
These reactions can be explained. Technology companies are hyper-sensitive to the health and future health of the economy. Investors remain uncertain and cautious about the direction of this economy. Any information that suggests the economy might stall further drives less convinced investors to the exits. Because the consumer has remained relatively engaged during this economic cycle, retailers have done better than they usually do during an economic slowdown so many of their stocks have held up better than the market as a whole. Investors are more tolerant of temporary lapses in earnings progress.
There is little surprise that the economic reports from the government of the past couple of months should reflect the negative influence of the war and rough winter weather. The reading of the results, however, is rather widely varied. CEO’s polled by the Business Roundtable, whose member companies have a combined work force of 10 million and $3.7 trillion in revenues, said U.S. executives expect U.S. gross domestic product to advance just 2.2% this year, a bit less than the sluggish 2.4% gain registered in 2002, as reported by Reuters. On the other hand, the Dallas Fed sees the economy slowly improving. “With the exception of employment weakness, soft spots in the U.S. economy appear to be firming up,” Dallas Fed economist Mark Guzman and research assistant Daniel Lamendola said in an article recently posted on the bank’s Web site.
So it appears that the economy has now regained its rightful position as prime mover of the market. Problem is, there is arguably as much uncertainty about its health as there was the war’s effect a few weeks ago. To a large extent, an economy becomes what the sum of the expectations of its participants expect it to become. If most assume the economy will decline, it will do so because of the actions they take in preparing for that slowdown. In essence, spending and investing halt and capital is relegated to non-productive areas such as savings accounts and debt reduction.
But the economic reports do not indicate that is happening. Consumer spending, while not robust, remains at relatively healthy levels, the war influence notwithstanding. The tables of data that comprise the government’s Gross Domestic Product number show that businesses are buying computers and installing new software systems to become more productive and competitive. These increases belie the fact that businesses are hunkering down for a prolonged economic slowdown. What is more likely happening is that CEO’s who have seen their stocks decline by 70% over the past three years as they continually failed to meet Wall Street’s unreasonable expectations are now dramatically lowering those expectations to their favor. Maybe investors’ expectations are becoming more realistic along with those of CEO’s and analysts. When that happens, economies and market reach an inflection point and turn.
The government just released the Producer Price Index which jumped 1.5% over a 1% increase in February. The increase was largely due to the increases in oil prices and will have little effect on the bond or stock market. In fact, oil prices are likely to decline rather sharply due to the glut forecast by OPEC members. Economists expect that oil prices could fall to the low $20’s. This reduction would provide a huge boost to consumer’s funds available for discretionary spending.
The big surprise this morning came with the advanced retail sales numbers. They rose 2.1% last month as Americans took advantage of promotions to buy more autos and returned to building material stores with the easing of bad winter conditions, according to Bloomberg news. The number beat economists’ expectations by a factor of 3.5 times. The consumer certainly isn’t hunkering down.
The Fed may cut rates again in the coming weeks or months. The administration will soon return its focus toward Congressional action on a fiscal stimulus package to jump start business investment. An economy the size of ours does not turn on a dime, but it turns. There will be “pockets of resistance” and “pockets of jubilation,” to coin a couple of oft heard war phrases. As the jubilation rises, the resistance should fade away.
Unemployment will be a holdout statistic as businesses delay hiring until it is absolutely necessary. Both history and current data tell us that businesses’ earliest investments are in technology and productivity. Jobs will follow as economic growth continues. Remember, business inventories are at all-time lows. We just learned that retail sales are bouncing back. All that stuff has to be replaced eventually.
Look for continued, albeit slow, improvement in the economic numbers. It will take a couple of months to get the war-effect out of the reports, so the market will likely remain cautious for a while. But at some point, investors will anticipate earnings recovery and begin moving, seemingly in a vacuum of the proof that many will be waiting for. We are READY for that move.