Sent from “Davidson”….. pessimism that contradicts reality is very healthy for a bull market. It lowers expectations and increases the “surprise” factor for earnings beats over lowered analysts predictions.
Feb. 16 (Bloomberg) — U.S. executives are boosting earnings estimates at the fastest rate in at least eight years just as optimism fades among analysts, a signal that preceded gains for the Standard & Poor’s 500 Index in the past.
Companies from Kellogg Co. to McKesson Corp. pushed the number of U.S. companies raising forecasts to 10 percent this quarter, while 4.1 percent lowered them. The gap is the widest on record, according to data from Bespoke Investment Group LLC. At the same time, analysts have cut first-quarter profit projections by 0.2 percent on average in the past month, data compiled by Bloomberg show.
The divergence may force Wall Street firms to increase estimates later this year, a bullish signal after the largest monthly drop for equities since February 2009. The last time companies were raising forecasts at a comparable rate while analysts reined them in was the start of 2004, when the S&P 500 gained 9 percent.
“Wall Street analysts are still very gun-shy of predicting a real recovery in earnings,” said David Kelly, who helps oversee $480 billion as chief market strategist for JPMorgan Funds in New York. “It tells us the stock market is cheap. The chances of companies beating estimates are extremely high.”
Nine Quarters
The S&P 500 has fallen 6.5 percent since reaching a 15 month peak on Jan. 19. The losses came even as companies in the benchmark gauge for U.S. equities reported a 60 percent average jump in profits during the last three months of the year, ending a record nine-quarter streak of declines. The index pared its drop last week, climbing 0.9 percent to 1,075.51, as officials in Europe pledged to help close Greece’s budget deficit.
The S&P 500 climbed 0.7 percent to 1,082.78 as of 9:31 a.m. in New York.
Companies are becoming increasingly optimistic after more than 72 percent of those in the S&P 500 beat analysts’ profit estimates, the second-highest percentage on record, according to data compiled by Bloomberg. Confidence among chief executive officers in the U.S. is at the highest level in at least four years, a survey from the Washington-based Business Council showed on Feb. 11.
Analysts are scaling back the rate of bullish profit projections after the S&P 500 fell in four of the past five weeks on concern that steps to limit risk among banks in the U.S. and China and growing European budget deficits will slow the economic recovery. The S&P 500 is down 3.6 percent in 2010.
‘Overly Cautious’
“A lot of analysts have been overly cautious,” said Eric Marshall, who helps manage the Hodges Small Cap Fund in Dallas that has beaten 84 percent of its rivals in the past year. “Companies are more credible when it comes to earnings forecasts. I’ve been doing this for 13 years, and I’ve found that to be the case.”
About 15 percent of the changes to profit estimates in January for companies in the S&P 500 consisted of analysts boosting their estimates, according to Barclays, which averages three months of data to smooth out fluctuations. That level is down from 18 percent in November, the highest since 2004.
Analysts have slowed their rate of increases after ratcheting them up by the most ever last year, according to Barry Knapp, head of U.S. equity strategy for London-based Barclays, who predicts an 8 percent retreat in the S&P 500 to 990 by the middle of the year.
“It’s another piece of supporting evidence that the first half of the year is going to be difficult,” said Knapp. “There’s room for disappointment on earnings.”
Perception Gaps
Kellogg CEO David Mackay told investors in a Feb. 4 conference call that a rising percentage of sales from higher- margin products will help the Battle Creek, Michigan-based maker of Eggo waffles push profits excluding some items up to $3.51 to $3.57 a share this year, an increase from the prior forecast of $3.40 to $3.52.
“Our financial performance for 2010 will be strong, given our cost savings and productivity momentum and the investments we’re making,” Mackay said.
Instead of raising their estimates, nine analysts trimmed forecasts to an average of $3.60 a share, data compiled by Bloomberg show. Tim Ramey, who follows Kellogg for D.A. Davidson & Co., cut his recommendation to “neutral” from “buy” and lowered his 2010 income projection to $3.55 a share a day after Mackay’s comments.
“Their revenue guidance is not particularly exciting,” he said in an interview from Lake Oswego, Oregon. “A lot of the good news is baked into the stock already.”
New Business
Jeffrey C. Campbell, McKesson’s chief financial officer, predicted the San Francisco-based company will find new business during 2010, helping boost its full-year projection to $4.55 to $4.70 a share on Jan. 26.
“Our solid execution to date will propel us to a strong finish in fiscal 2010,” Campbell said on a conference call following the earnings report. McKesson said increased demand for swine flu vaccine will help sustain earnings growth.
While a majority of analysts raised their income projections for this year, 7 of 19 covering the company lowered estimates for 2011 to an average of $4.71 a share following the report. Helene Wolk at New York-based Sanford C. Bernstein & Co. has reduced her outlook for next year at least three times since December to a prediction of $4.61 a share, Bloomberg data show.
“This is an industry that has reached a level of maturity,” said Wolk, who rates McKesson “market perform.” “Revenue growth and market growth in this environment have actually slowed considerably.”
Too Bearish
The pessimism isn’t keeping David Darst, chief investment strategist for Morgan Stanley Smith Barney, or JPMorgan’s Kelly from being bullish on stocks. Kelly says analysts may be underestimating revenue growth and are reluctant to turn bullish following the biggest financial crisis since the Great Depression.
The earnings season that began last month is the third straight quarter when more companies raised their estimates than lowered them, according to data compiled by Harrison, New York- based Bespoke. One streak of that length ended with the first quarter of 2004 and the S&P 500 gained 2.4 percent the following month. The rate of estimate increases by analysts peaked in early 2004 and declined through the rest of the year, Barclays data show.
“The analysts are like the parents who say, ‘Wait a minute, it rained all morning and just because there’s a nice patch of blue sky, it doesn’t mean that the rest of the afternoon is going to be without showers,’” said Darst, who helps oversee $1.6 trillion in New York. “Corporate managements are maybe a bit rosy, but they’re rosy for a reason. They have a nose for what their customers are telling them.”