What Sluggish GDP Is Saying About This Season's Earnings

By George Leong for Investment Contrarians

It’s that time again. On Monday, aluminum maker Alcoa Inc. (NYSE/AA) will once again grace us with its presence, as the bellwether gets set to tell how the global economy is feeling when it gets the first-quarter earnings season going. The company has long been a staple for the earnings season, as aluminum is used in numerous industrial applications globally and represents a decent barometer on the condition of the global economy. From automobiles to aircraft, packaging to building, and construction to consumer electronics, a strong report from Alcoa this earnings season will keep the current rally going.

Yet a few weeks ago, there were some early warning signs. Bellwether shipping company FedEx Corporation (NYSE/FDX) and farm equipment seller Caterpillar Inc. (NYSE/CAT), both considered to be barometers of the global economy, suggested some global stalling.

The first-quarter earnings season is expected to see earnings fall 0.7%, but growth is estimated to return to 10.3% in the third-quarter earnings season and 15.6% for the fourth-quarter earnings season; clearly there are some optimistic estimates, according to FactSet. (Source: “Earnings Insight,” FactSet Research Systems Inc. web site, March 22, 2013, last accessed April 2, 2013.) The contraction in the first-quarter earnings season is not a big deal, but the optimistic growth expectations going forward appear to be somewhat too optimistic and could result in a market letdown.

According to FactSet, about 84 S&P 500 companies have warned of lower-than-expected earnings, versus 24 companies that provided positive guidance.

The sectors issuing the worst forecasts include materials, health care, and consumer staples, so you may want to stay away from these sectors.

The top-performing earnings growth predicted for the first-quarter earnings season lies in the utilities, financials, and consumer discretionary sectors, according to FactSet.

The positive sentiment toward the financial sector is not a surprise, as the banks have provided strong leadership so far this year and look excellent on the charts. The results of the recent stress test by the Federal Reserve were a vast improvement over the previous years.

As in every earnings season, the key will be the revenue growth.

You want to see if companies are growing their revenues to drive earnings, not just simply cutting costs on the income statement. Companies and sectors that are recording solid revenue growth are what you want to keep an eye on. I do not like companies that just go and cut expenses across the board to make the earnings look better.

My feeling is there will be disappointments simply based on the fact that America’s gross domestic product (GDP) growth is average (at best) and subpar compared to the emerging markets.

Be careful; don’t go and chase stocks prior to seeing the flow of earnings. And don’t get overly excited about the second and third quarters just yet.

This Article What Sluggish GDP Is Saying About This Season’s Earnings was originally published at InvestmentContrarians