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Fourth-Quarter Earnings: Halftime Update

Tougher expectations could make for a tumultuous second half


We’re right around halftime of fourth-quarter earnings season — the perfect time to look back at a few stats, and maybe get a handle on whether Wall Street’s strong performance will spill over into the second half.

Of the 270 or so S&P 500 companies that have reported so far, 73% have topped analyst earnings estimates and 66% have beaten sales estimates. We’ve seen breakout earnings announcements across all sectors, including surprises from chipmaker Advanced Micro Devices (NYSE:AMD), investment bank Morgan Stanley (NYSE:MS) and refiner Valero Energy (NYSE:VLO).

However, the spoils have not been spread out among all sectors.

The biggest winners have been healthcare, consumer staples and information technology. Companies in these sectors have, on average, beaten earnings and revenue estimates by better than 65% each. And they have seen fresh buying pressure come rushing into their shares. On average, companies in these three sectors got a 1.3% boost in share price on the day of their earnings announcement.

Not too shabby.

On the opposite side of the earnings seesaw are materials and financials. Companies in these two sectors beat sales and earnings estimates by less than 65% each and saw their shares stay flat or drop following their earnings announcement.

What’s happening is that the analyst community played it safe this earnings season — likely to compensate for the uncertainty caused by the fiscal cliff and shifting tax code. At the beginning of October, analysts expected 9.9% earnings growth on average for S&P 500 companies, but by the start of earnings season, those estimates had been slashed to 1.9%. Halfway through earnings season, the Street is a bit more optimistic, now calling for earnings growth of 3.8%.

So, analysts set the bar low, early-reporting companies exceeded estimates and now expectations, while more reasonable, might once again be too high. If companies can’t hurdle estimates by something near that 65% mark, they will likely see their shares punished — and thus, I expect the second half of earnings season to be much choppier than the first.

In the past few days alone, we’ve seen significant post-earnings pullbacks from ConocoPhillips (NYSE:COP), Dow Chemical (NYSE:DOW), Ford (NYSE:F) and Merck & Co. (NYSE:MRK). And with a fresh wave of small- and mid-cap companies doling out numbers this week, I expect the market to become pretty bumpy in a matter of days.

This presents a few profit opportunities for nimble investors.

First, those who have stuck with fundamentally strong stocks with a history of reporting strong earnings should benefit. Any time we see fewer companies beat quarterly estimates, we tend to see a flight to quality stocks. Second, over the next few weeks there should be opportunities to add premium stocks on pullbacks.

The bottom line is that I am going to remain very selective with my own stock picks. I recommend you do the same.

Article printed from InvestorPlace Media,

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