Second-Quarter Profits Through the Roof — How About Stocks?

Second-Quarter Profits Through the Roof — How About Stocks?
— by Michael Lombardi, CFP, MBA

Major U.S. companies have been releasing their second-quarter profit numbers and they are better than what stock analysts had expected. Here are five companies that earned $13.0 billion in profit this past quarter alone:

—- General Electric Co., one of the world’s largest companies,
reported a profit this morning of $2.87 billion in the second quarter, beating the Street’s expectations.

—- Bank of America, the largest U.S. bank based on assets, just reported net income of $3.22 billion for the second quarter, topping analysts’ expectations.

—- Google, the Internet mammoth, reported last night that it earned $1.48 billion in the second quarter, which was above analysts’ expectations.

—- JPMorgan Chase & Co., the second biggest U.S. bank, saw its second-quarter earnings come in at $2.72 billion, again above analysts’ expectations.

—- Goldman Sachs, the envy of Wall Street, reported earlier this week that it earned $2.7 billion in the second quarter, smashing through what analysts had expected.

The profit numbers are good. So why aren’t stock prices moving higher, quicker? After all, if these companies are reporting billions in profits again, isn’t the worst of the economic slump behind us?

The problem for the market is that most of these companies are warning that future revenue growth is faltering. In essence, the companies are saying, “The second quarter was good, but we can’t promise how profits will come in going forward.”

If there is anything that the stock market hates, aside from rising interest rates, it is uncertainty. The next two quarters of earnings reports from major corporations will be essential in determining where the economy is headed for 2010. The good news is that many small-cap companies are seeing their stock prices benefit as concern around the profitability of the large corporations dissipates.

Michael’s Personal Notes:

For the first time, China’s holdings of U.S. dollars have surpassed $2.0 trillion. China has been selling yuan, its currency, in a bid to keep the yuan down in value against other world currencies, thus keeping Chinese goods cheap in price for foreign buyers. I understand that the goal of most central banks at this point in the economic cycle would be to keep their currencies at a low value to not impair exports, but I keep wondering at what point China will lose faith in the U.S. dollar. The U.S. deficit this year alone will top $1.0 trillion, a record. If China keeps on it path of selling its currency to buy American currency, which is increasingly backed by debt, won’t the entire strategy blow up badly?

Where the Market Stands:

What a difference a couple of days make! The Dow Jones Industrial Average is now within one percent of turning positive for 2009. Earnings reports for the current quarter have been positive, maybe better than the market expected (see above). Is the rally back on? Too early to tell. Seasoned readers are aware of my feeling that the market never delivered the traditional 50% rebound for the sell-off that ended March 9, 2009. On the other hand, our technical analysts tell us that a lot of damage was caused over the past three weeks, as the market retreated. Any way you look at it, if the bear rally is back on, remember that it is a “bear” market “rally,” which means that stocks will eventually go south again. At 49 times earnings, there is no doubt that the Dow Jones Industrial Average is expensive.

What He Said:

“The U.S. reduced interest rates in 2004 to their lowest level in 46 years. And what did Americans do with their access to easy money? They borrowed and borrowed some more, investing the borrowed money into real estate. Looking ahead, perhaps the Fed’s actions (of reducing interest rates so low as to entice consumers to borrow more than they can afford) will one day be regarded as one of the most costly errors committed by it or any other banking system in the last 75 years.” Michael Lombardi, in PROFIT CONFIDENTIAL, July 21, 2005. Long before anyone was thinking of a banking crisis, Michael was warning that the coming real estate bust would cause havoc with the banking system.