earnings

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Who would have thought…

Earnings Season Already Looks Like a Train Wreck

By Jeff Cox

June 24 (CNBC) — Companies haven’t even started posting second-quarter earnings results yet, but the early picture isn’t pretty.

The pre-earnings season is often referred to by market insiders as the “confessional”—that time when Corporate America starts letting shareholders know the truth between earnings perception and reality.

If this quarter’s version is a reliable indicator, there will be some serious penance handed out once announcements officially begin in two weeks.

Earnings pre-announcements have been decidedly ugly, running about 7 to 1 negative to positive.

That’s the worst level since the first quarter of 2009, when, in the words of Citigroup chief strategist Tobias Levkovich, “the global economy was sitting on the edge of the abyss undergoing a financial crisis and near systemic meltdown.”

Alcoa traditionally kicks off earnings season, with the Dow Jones Industrial Average component and aluminum producer expected to show profit of 10 cents a share.

But more broadly, Wall Street consensus expects little profit growth in S&P 500 companies for the second quarter.

That could be bad news for stocks, considering that earnings per share collectively has closely mirrored the 140 percent growth in the stock market index since the March 2009 lows.

All the market talk about what the Federal Reserve has in store, Levkovich said, has come “almost without spending any time looking at earnings estimates or trends less than a month before second-quarter results are released.”

“Such a thought process seems ill-founded since earnings matter the most for equities, in our opinion, and there is relatively robust statistical evidence to back up that contention,” he said. “In this respect, we have been a tad shocked by the surge in negative-to-positive pre-announcement trends that make 2009’s surge appear less worrisome in retrospect.”

Indeed, a flat earnings outlook suggests a flat market or worse, particularly after the sour reaction following last week’s pronouncement from Fed Chairman Ben Bernanke that the central bank’s $85 billion a month liquidity program could wrap up in 2014.

For his part, Levkovich is no alarmist. His team espouses what it calls a “Raging Bull” theory that sees a strongly positive long-term market outlook.

But his words do fit with an increasingly likely outlook in which the market will be at the least hard-pressed to match the 11.6 percent year-to-date gains on the S&P 500.

Bullish investors have been counting on growth to fuel the next leg of the rally.

Profit outlooks, though, seem too rosy.

S&P Capital IQ projects the third quarter to show 6.7 percent gains and the fourth quarter to register 11.6 percent. Levkovich calls the expectations “a bit too optimistic,” which seems like an understatement considering that most economic indicators outside of housing are showing signs of a slowdown.

He sees the future entailing a healthy pulling back of earnings estimates, which investors should watch closely.

“We suspect that such trimming may come about over the next six months, rather than in one fell swoop,” Levkovich said. “Thus, future estimate cuts could be a drag on equity prices and investors need to shift their attention away from just watching every wiggle out of the Fed.”

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last update from Rome, home tomorrow

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Markets remain in ‘QE off’ mode, with stocks down and longer term rates up.

‘QE on’ was a misguided speculative bubble in any case, as QE is, at best, a placebo, and in fact somewhat of a tax as it removes a bit of interest income.

But obviously global markets view it as a massive stimulus, as per the various market responses.

The real economy, however, continues to suffocate from a too small US federal budget made even smaller by the proactive tax hikes and spending cuts.

Yes, there is some private sector credit expansion trying to fill the ‘spending gap’ caused by the fiscal tightening, but all that and more is needed to keep it all growing in the face of the ongoing automatic fiscal stabilizers that make it an ‘uphill’ battle for the forces of non govt credit expansion.

So seems to me this all leads to lower equity prices as prospects for earnings and growth fade, and, at some point, lower bond yields as expectations for Fed rate hikes are pushed further into the future by the economic reality.

I also look for confidence readings, one of the few ‘bright spots’, to fade with the equity sell off as well.

And, at some point, ‘QE on’ ceases to matter, under the ‘fool me once…’ theory???

And should that happen, and the Fed be exposed as ‘the kid in the car seat with the toy steering wheel who everyone thinks is driving’, no telling what happens…

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Friday update- deficits matter, a lot!

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So back to basics

For 16t in output to get sold there must have been 16t in spending, which also translates into 16t in some agent’s income.

And (apart from unsold inventory growth), for all practical purposes nominal GDP growth is another way to say sales growth.

To state the obvious, sales = spending, income = expense, etc. Working against growth is ‘unspent income’, also called ‘demand leakages’. Those include pension contributions, insurance reserves, retained earnings, foreign CB fx purchases, cash hoards, etc. etc. etc. And for every agent that spent less than his income, some other agent spent more than his income, to the tune of the 16t GDP.

And GDP growth is a function of that much more of same.

Well, the 2% or so growth we’ve been getting once included the govt spending maybe 10% more than its income to keep sales growing more than the demand leakages were working against sales growth. And with growth, the so called automatic fiscal STABILIZERS work to temper that growth, as growth causes govt revenues to increase and govt transfer payments to decline.

You can think of this as institutional structure that causes the economy to have to go uphill to grow. That’s because as the economy grows, the growth of govt net spending is ‘automatically’ reduced.

So after a couple of years growth the govt went from spending maybe 10% more than its income to something under 6% of its income, which translated into about 2% real growth, and about 3.5% nominal growth.

Well, to keep this going in the face of the demand leakages, some other agents were picking up the slack.

Looking at the charts it seems to me it was the home buyers and car buyers who were consistently spending more than their incomes, driving the nominal GDP growth.

But then on Jan 1 fica taxes went up as did some income tax rates, by about 3.5 billion/week, removing that much income from potential spenders. And a few months later the sequesters hit, both reducing GDP by the amount of those spending cuts and reducing income by about another 1.5 billion per week.

In other words, the govt suddenly reduced the amount it was spending beyond its income by about 1.5% of GDP, which had been working along with the domestic credit expansion to outpace the demand leakages.

So how has domestic credit managed to expand to fill that spending gap caused by the already retreating govt deficit spending proactively dropping another 1.5%?

With great difficulty!

Since January, after climbing steadily, car sales look to have gone sideways. And looks to me like the rate of domestic deficit spending on housing has declined as well. In any case there hasn’t been an the increase these ‘credit expansion engines’ needed to fill the spending gap from the proactive drop in govt deficit spending. And add to that decelerating person income stats (and remember, the pay for additional jobs comes from someone else’s income, and hopefully income spent on output).

And in any case to keep growing at about 2% credit expansion has to overcome the demand leakages and climb the hill of the automatic fiscal stabilizers as with the current institutional structure nominal growth automatically reduces the contribution of govt deficit spending, which is now maybe down to 4% of GDP. Note that with forecasts of 2% growth the forecast for the govt deficit spending falls to only 2% of GDP, implying far more rapid increases of ‘borrowing to spend’ in the domestic sector. And if that net new borrowing doesn’t materialize, the sales don’t either.

Is it possible for housing related credit expansion to suddenly accelerate? Sure, but is it likely, especially in the face of the drag the govt layoffs and tax increases that made the hill the domestic credit expansion needs to climb that much steeper? And sure, the foreign sector could suddenly spend that much more of its income in the US, but is a US export boom likely in the current anemic global economy? I wouldn’t bet on it.

Now add this to the taper nonsense.

As previously discussed, QE is at best a placebo, and more likely a negative as it removes interest income from the economy.

But with none of the name institutions of higher learning teaching this, today’s portfolio managers think it’s somehow a ‘stimulus’ and act accordingly, driving up stock prices globally, supporting global ‘confidence’, even as growth and earnings show signs of fading. And then when the Fed even discusses the possibility of reducing the volume of QE, they all stampede the other way, with bonds reacting to the same misguided QE logic as well. But in any case, these are misguided, one time portfolio shifts, that tend to reverse with time as the reality of the underlying economy/earnings eventuates, refudiating the presumed effects of QE… :)

To conclude, I just don’t see the source of the credit expansion needed for anything more than modest nominal growth, which has now continued to decelerate to maybe 3% of GDP, and a real risk that the domestic credit expansion can’t even keep up with the demand leakages, and real GDP goes negative, along with top line growth and earnings growth.

In fact, with annual population growth running at about 1.25%, per capita GDP is already only about equal to productivity growth, as the labor force participation rate hovers at multi decade lows.

Have a nice weekend!

Ciao!

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BMW, Mercedes Step Up Used Cars Push to Combat Slump

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Slumping demand in Germany:

BMW, Mercedes Step Up Used Cars Push to Combat Slump

By Dorothee Tschampa

June 1 (Bloomberg) — With fewer and fewer Germans buying new cars, Bayerische Motoren Werke AG (BMW), Daimler AG (DAI) and Volkswagen AG (VOW3) are trying the next-best thing: pushing second-hand models.

Counting on the cachet of their brands, German automakers are stepping up efforts to cash in on the growing used market as new-car demand withers. The push, which includes leasing offers and fast-track loans, helps attract new buyers for models beyond the reach of many consumers, increasing competition for mass-market nameplates.

For used Mercedes-Benz vehicles, “we can make financing decisions in less than 15 minutes and offer very attractive conditions,” said Franz Reiner, head of Daimler’s banking unit. “Used cars offer an entry into the Mercedes-Benz world.”

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state deficit spending down

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Why Those New State Budget Surpluses May Not Last

By Mark Koba

June 20 (CNBC) — State coffers are building back up—some with record surpluses.

But experts warn that reduced tax revenues— along with a return to overspending—could jerk states right back into the red, and quickly.

“Some of the states’ deficit reduction is coming from economic growth, but most of it is coming from taxes,” said Elizabeth McNichol of the Center on Budget and Policy Priorities. McNichol authored a study this month on state revenue increases.

The increased revenues came about because many taxpayers front-loaded income into 2012 rather than 2013 in an effort to steer clear of tax plans mandated on the Congressional level, according to McNichol.

The danger for states is getting to depend on those revenues.

“While those taxes filled state budgets at least for now. there’s no guarantee they will be there in the future,” said McNichol.

“And with cutbacks in funding from the federal government and a slower economy, that could leave states high and dry if they squander surpluses on new government programs or premature tax cuts,” she said. “They could be back where they started.”

Disappearing Deficits

U.S. state budgets suffered their worst downturn in 70 years from the Great Recession, according to the CPBB. More than half the states had deficits.

But many budget declines are evaporating, if not completely disappearing.

In the midst of an energy and agricultural boom, North Dakota is projecting a $1.6 billion surplus over its two-year budgeting cycle. Texas projects an $8.8 billion surplus over its current two-year budget cycle.

Florida, forced to make deep spending cuts in recent years, projects a $437 million surplus. Ohio expects a surplus of $1 billion, and Iowa a $484 million surplus, according to the National Association of State Budget Officers.

The biggest turnaround may be in California. The Democratically controlled state legislature in Sacramento just approved a $96.3 billion budget, the third largest in state history, based on a projected surplus of nearly $4.4 billion. Only three years ago, California was running a $60 billion deficit.

Much of the credit for the surplus in the Golden State—coupled with spending cuts—goes to a tax increase voted on by California voters last November that ranged from 9.3 percent to 10.3 percent for individuals making $250,000 to 10.3 percent to 13.3 percent for those making at least $1 million annually.

Resisting the Urge to Squander

It’s not just California seeing higher taxes turn to healthier budgets. In the fourth quarter of 2012, according to the Nelson A. Rockefeller Institute of Government, all state tax receipts were up 5.7 percent from the fourth quarter of 2011.

The CPBB reports that the typical state has collected 8.9 percent more in personal income taxes so far this year than in the same period in 2012. Seven states Florida, Texas, Nevada, Washington, South Dakota, Wyoming and Alaska, don’t have a personal income tax.

But states are in danger of reversing their progress if they spend now or try turning surpluses into tax cuts.

“States have to work on a careful balance when it comes to taxes,” said Stanley Veliotis, a tax professor at Fordham University.

“On the one hand, they can’t raise taxes too high and force businesses and people to move to states with less taxes,” Veliotis explained. “On the other hand they can’t lower taxes too much and lose out on revenue.”

Some states are using their new found money to restore cuts in education and infrastructure—Florida is looking to increase teacher pay, and Tennessee is expected to spend more on health care and its prison system.

California is putting some of its money away for a rainy day fund besides increased spending on education and healthcare.

Others, like Ohio, Iowa and Indiana have lawmakers pushing for state tax cuts.

“States are thinking about cuts, but I think they need to wait and see whether economic growth can continue,” said McNichol. “It doesn’t make sense to cut taxes now if they’re such a main source of revenue.”

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Fed re fiscal drag

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Fiscal Headwinds: Is the Other Shoe About to Drop?

By Brian Lucking and Daniel Wilson

Conclusion

Federal fiscal policy has been a modest headwind to economic growth so far during the recovery. This is typical for recovery periods and in line with the historical relationship between the business cycle and fiscal policy. However, CBO projections and our estimate based on the countercyclical history of fiscal policy suggest that federal budget trends will weigh on growth much more severely over the next three years. The federal deficit is projected to decline faster than normal over the next three years, largely because tax revenue is projected to rise faster than usual. Given reasonable assumptions regarding the economic multiplier on government spending and taxes, the rapid decline in the federal deficit implies a drag on real GDP growth about 1 percentage point per year larger than the normal drag from fiscal policy during recoveries.

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