Earnings and Market update – November 17, 2012: SP 500 now as oversold as May, ’12 lows

The “forward 4-quarter” earnings estimate for the S&P 500 (per ThomsonReuters) is $109.61, down from last week’s $109.90, but still above the late September low of $107.89.

The S&P 500 (as of Friday’s close) is trading at 12.5(x) that forward estimate, for expected 4% year-over-year earnings growth in 2012 and an expected 10% earnings growth rate in 2013.

The S&P 500 “earnings yield” has risen from 7.96% last week to 8.06% as of Friday, November 16th, and close to the all-time high of 8.25% reached in early July, ’12.

http://www.thereformedbroker.com/2012/11/16/revenue-shortfalls-bring-profit-margin-caution-chart-of-the-day/?utm_source=feedburner&utm_medium=email&utm_campaign=Feed%3A%20StockTwitsBlogs%20%28StockTwits%20Blog%20Network%29. The attached link is from Josh Brown’s blog post found on StockTwits, where Josh laments the fact that only 30% of S&P 500 companies are beating revenue estimates. This isn’t a new revelation – weak earnings and revenue growth have been telegraphed for the 3rd quarter for some time, since late Spring, early summer. However even the headline seems misleading: per ThomsonReuter’s “This Week in Earnings”, which is the source for most of our earnings data, 39% of S&P 500 companies have beaten revenue estimate for the 3rd quarter, as of Friday, November 17th. (Josh thought the Q3 ’12 revenue “beat” rate held “dire consequences” for 4th quarter earnings. We respectfully disagree.)

While the 39% (or 30%) revenue “beat” might make for good headlines and hand-wringing amongst the bears, the fact is that companies are missing by revenues (per Thomson) on average, by just 1%.

A good example of this is Wal-Mart’s (WMT) report this week: WMT missed on revenues for their fiscal 3rd quarter, ALL of the revenue miss being attributable to forex. WMT’s consensus revenue estimate coming into this week’s report was $115.040 billion, while actual revenues were $113.2 billion. According to Wal-Mart’s recorded conference call comments (available on the website), exchange rate fluctuations cost $1.7 billion, which would leave sales, (ex currency) at $114.9 billion, versus the $115.040 billion estimate. (Long WMT – bought more Friday, 11/16.)

Now that roughly 450 of the S&P 500 companies have reported 3rd quarter earnings, earnings growth is actually 0% (flat with Q3 ’11) and revenue growth is -0.8%. Again, this isn’t new news – this slowdown in both earnings growth and revenue growth has been telegraphed for some time.

So what’s the point ? This week ThomsonReuters in their weekly issue chatted about Q4 ’12 earnings, which currently are expected to grow 4.9% year-over-year, a growth rate that is down from 10% from October 1st.

4th quarter earnings reports are always double-barreled simply because we see both the 4th quarter results and management’s usually use the 4th quarter conference call to issue their first pass at what this year will be 2013 guidance. This year’s calls could carry even more weight this year since we will likely have the “fiscal mess” behind us, not to mention the election, so management’s will be able to give their unvarnished look at the year without having (hopefully) another looming roadblock or fiscal deadline hanging over their heads (but I guess that still remains to be seen).

It is just our opinion, but there seeems to be an an extraordinary amount of pessimism permeating the equity markets these days (and you can actually make the case for pessimism surrounding the Treasury market too), with the S&P 500 fallng 7% since the election certainly intensifying that pessimism.

Stat of the week: one sector that has caught our eye (besides Financials) is Telecom. Just 3% of the SP 500, telco is a small part of the market. Here is the trend in earnings estimates for Telco for the next few quarters:

Telco: (The first column is the quarter, the 2nd column is the earnings growth estimate as of Nov 16th, the 3rd column is the earnings growth estimate as of Oct 1)

q3 ’12: -0.2%, -12% (actual)

q4 ’12: +8.4%, +4.1% (est)

q1 ’13: +9.5%, +4.1% (est)

q2 ’13: +15.7%, +7.9% (est)

Estimate revisions have been positive for the most part for Telco, as they have for Financials, and these revisions look to be carrying out to mid 2013 as well. Hard to say what is driving it at this point. AT&T and Verizon have gotten hit pretty hard in recent weeks thanks to worries about dividend income being taxed at ordinary income rates, which has hit the “dividend trade” in a big way the last four weeks.

AT&T and Verizon charts look terrible. Both stocks are trading below their 200 day moving averages. Opportunity – maybe a bounce this week ? (No positions in either…)

Bottom line: the S&P 500 is cheap (as it has been for a while) relatively speaking. On an absolute valuation basis, it is somewhat attractively valued, but not 7(x) earnings cheap.

We remain overweight in equities relative to fixed income in clients accounts. We remain overweight technology, financials, and industrials.


Trading/sector/market update:

* This coming week is Thanksgiving week and – at least according to Bespoke – at present the SP 500 and all 10 sectors are trading at least 2 standard deviations below their respective 50-day moving averages. We havent been this oversold on a market basis since May or June of this year, 6 months ago. We liked the close for the SP 500 on Friday, above, 1358 or the “50-week” moving average (see last week’s chart) and even Apple (AAPL) had a big reversal on Friday, trading back above the May 18th low of $522, after sinking to $500 during the day.

We added some SPY and a smidge of Apple late Friday afternoon, as well as some other names to client accounts.

* Lowes (LOW) reports Monday morning before the open, Hewlett-Packard (HPQ) on Tuesday, and then Deere (DE) on Wednesday. Earnings reports will be limited as well economic data, which is now being distorted by Sandy. Check out our earnings preview for LOW on SeekingAlpha http://seekingalpha.com/article/1014231-lowe-s-earnings-preview-valuation-gap-has-improved-but-comps-need-to-improve-also. LOW is a little cheaper on a valuation basis for good reason. The stock has rallied $6 – $7 since the August earnings report, which we didnt think was very good. Can LOW become the operator HD is currently and can both get a tailwind from the housing rebound ?

* Given how DELL traded Friday, hard to believe Hewlett will be any better. DELL guided lower Thursday night.

* Which is better today – value or growth ? And if Value, with dividends, what about the Cliff ? I’ve been wondering if this bizarre raindance in Washington won’t somehow be better for growth stocks since the capital gain (or loss decision) is strictly up to the investor (timing), rather than a mandatory dividend being paid which could get taxed at a higher rate, over which the investor has little control. Also, will companies with large share repurchase plans relative to dividends outperform vis-a-vis those companies that are “dividend heavy” and “share repurchase light” since share repo’s could be tax-advantaged. Inquiring minds want to know… (I sure dont have an answer, but i’m watching how the stocks are trading. The divvy trade seems to have gotten hammered relative to growth like Amazon, Intuitive Surgical, etc. Don’t get me wrong – this isn’t a rigorous analysis. I’m simpy watching how groups are trading.) (Long some AMZN, small position in ISRG.)

* We sold some high yield fixed-income last week. Trade seems very crowded. Just reducing our overweight and upgrading to the higher end of the junk bond market.

* Per Bespoke, the MUB (municipal bond ETF) had an ugly reversal one day this week. We took the opportunity on Wednesday or Thursday to sell our municipal high yield and shorter-duration muni funds. Could the municipal bond market’s tax preference be on the table in Washington ? That would be one way for Washington to both generate revenue and hammer the wealthy 1%’ers – take away their municipal bond tax-exempt income. According to a recent article in the New York Times, the US muni bond market is $4 trillion in size – that is a lot of income that could flow to federal coffers. I started out as a municipal bond credit analyst, and this issue of taxing muni’s on par with the “taxable” bond markets surfaces every time the government starts sniffing around for revenue, both under Bush 41 and then under briefly under Clinton. It might have teeth this time.

* Still love Facebook (FB) under $20. May not see that again. Bought a little this week for more aggressive accounts at $19.99. Not a big position – just trading around the edges.

* In business school courses for Bond management and Money & Banking, I read about “crowding out” or the government’s borrowing demands being so onerous that private capital is pushed out of the market thanks to high rates generated by governemnt borrowing. It is amazing to me with the all the worry about the budget deficit and the Treasury borrowing, how the “crowding out” theory never came to pass. The 10-year Treasury at 1.61% has been a huge boon to Corporate America, since so much debt has been re-financed at much lower interest rates over the last 4 years. Corporate America is set up for a very long time (as long as they have been smart enough to issue longer-term debt) to finance projects with very low hurdle and IRR rates thanks to the decline in the 10-year Treasury yield. In addition, companies with non-investment-grade ratings have had some time to refinance their debt and lower their interest costs, which has certainly helped their market. Crowding out never came to pass. The US government has been able to finance everything it needs at very low rates. We rarely hear about this. (At least that is how I see it – please tell me if I am wrong.)

* PIMCO’s El-Arian wrote this week we are about to “get more Fed”. Ben has to be pulling his eyes out as fiscal policy inertia has now completely over-ridden monetary policy stimulus. No wonder the guy wants to quit.

* China: great chart from Norm Conley of JA Glynn:http://twileshare.com/yky. Watch Freeport (FCX) and Alcoa (AA) for potential China trades. AA trading 75% of tangible book value. Has gone nowhere for years, though. One of our dogs.

* Final trades: sold AMAT on Friday. They reported Thursday night, cut guidance. Stock down on slightly heavier volume on Friday. Stock is very cheap, but more of a value trap now. Needs something – semi’s continue to disappoint. Bought some Wal-Mart (WMT) on Friday. They said on the conference call (that didnt get reported) that November has started out ahead of plan. Buy the 200 day moving average.

Thanks for reading. We could write for hours.

Trinity Asset Management, Inc. by:

Brian Gilmartin, CFA

Portfolio manager






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