PowerTrend Brief: Eyeing Market Risk Heading into Earnings Season

Domestic equity markets moved sideways this week as investors digested the latest economic data in advance of 1Q 2012 earnings that kick off next week when Alcoa announces its results on Tuesday. All in all, this week’s news confirms what I have suspected. After a strong first quarter, the reward-to-risk profile in the equity markets has shifted to, at best, a near-term neutral position.

Early this week, we learned that not only did euro-zone unemployment rise to the highest level in more than 14 years but manufacturing in the region contracted for an eighth month in succession. Taken together, these two February data points offer the latest evidence of what more than a few people have suspected in recent months — the euro-zone economy has likely slipped into a recession in the first quarter. That data is sourced from the European Union’s statistics office in Luxembourg, but other data sources, like Markit Economic, point to further erosion in March. More specifically, Markit’s euro-area manufacturing gauge dropped to a three-month low in March. Breaking down the data, we see the German indicator fell to 48.4 from 50.2 the previous month, while in France, the number slipped to 46.7 from 50 and this data shows the manufacturing malaise is spreading to the core of the euro zone.

In the Far East, there seems to be some conflicting views on China as the official Purchasing Managers’ Index (PMI) hit an 11-month high with a stronger-than-expected reading of 53.1 for March. But a separate private survey by HSBC painted a weaker picture. HSBC’s findings showed the index reading for March coming in at 48.3, well below the 50 mark that separates growth from contraction. Taken together, these at-odds data points suggest that China’s economy remains sluggish and concerns about its landing — be it hard or soft — remain. Factory activity also slowed in India, Asia’s third-largest economy, during March, while inflation picked up in February for the first time in five months.

Not only have we all heard about the year-to-date rise in domestic gas prices but most, if not all of us, have felt the pain at the pump. While we tend to think of how this pricing impacts our own pockets, we have to remember the rise in fuel prices and the ripple effect it has on food and other consumable products, as well as companies and other institutions. Warnings from General Mills, Inc., and ConAgra Foods, Inc., support that cautious view. Despite the outlook for better revenues, profits could be under pressure in 2012 due to higher input costs. As such, a growing concern I have is what this situation means for the overall market in the coming weeks as companies not only report their first quarter results but also update their outlooks for 2012. Odds are that few companies expected such a rise in their input costs back in January when they issued their original 2012 forecasts.

Quick PowerTrend Hits

As we end the shortened trading week, there have been a number of confirming data points for several of my PowerTrends.

• Rise and Fall of the Middle Class. The rise of the middle classes in China has boosted revenues for Intertek, a British company that tests products from toys to oil plants. Intertek reported annual results that showed pre-tax profits rose 12% from the previous year, with most of the growth in Asia. As Intertek sees it, “By 2020, there will be one billion new consumers in the middle classes of emerging economies, with a combined buying power of $10 trillion.”

• Safety & Security. Hot on the heals of our report last week about how a Microsoft co-founder had his bank accounts compromised, roughly 1.5 million credit cards account with MasterCard and Visa were hacked. The incidence of cyberattacks and identity theft show no signs of slowing.

• Cashless Consumption. Regional gas station/convenience store chain Cumberland Farms has done just that with its new SmartPay app, which in addition to letting users pay without leaving their seats, offers them a $.05 cent/gallon discount.

Sincerely,

Chris Versace
Editor, PowerTrend Brief

P.S.You can take advantage of a special promotional offer to become a subscriber to my new monthly investment newsletter, PowerTrend Profits. Our normal subscription price will be $249 a year but my publisher is offering a pre-publication, introductory price of only $77 through April 13. After that date, the introductory price will increase! My first issue will come out toward the end of April, so I invite you to become a founding subscriber by signing up today.

Next Week

As we exit the holiday weekend and firmly put 1Q 2012 behind us, the focus will turn to expected corporate earnings reports over the next several weeks. Ahead of April’s corporate earnings, expectations for the S&P 500’s operating earnings in 2012 calls for a 5% increase year over year to $102.12, which is far slower than the 14% growth delivered in 2011. Given the more than 20% increase in gas prices year to date, the ripple effect on spending on cost structures and slowdown in Europe and Asia, odds are there will be at least some negative revisions in the coming weeks that will weigh on expected S&P 500 earnings. Our first take on that will be next week when we hear from Alcoa and J.B. Hunt.

While many will look at the 13.8 times earnings multiple for the S&P 500 and say it looks inexpensive, we have to remember that metric reflects multiples of the expected earnings growth rate. In my experience, it is rare to see valuation multiples expand on a sustained basis when earnings growth is slowing. I suspect the next few weeks to be more volatile than what we have seen thus far in 2012.

Monday, April 9
Princeton Review Inc. (REVU)

Tuesday, April 10
Alcoa Inc. (AA)
The Greenbrier Companies (GBX)
Joes Jeans (JOEZ)

Wednesday, April 11
MBA Mortgage Index (Weekly)
Export & Import Prices (March)
Federal Reserve Beige Book (April)
Bassett Furniture (BSET)

Thursday, April 12
Weekly Initial & Continuing Jobless Claims
Producer Price Index (March)
Fastenal Co. (FAST)
J.B. Hunt Transport Services (JBHT)
Rite Aid Corp. (RAD)

Friday, April 13
Consumer Price Index (March)
Michigan Sentiment Index (April)
Duckwall-ALCO Stores (DUCK)
J. P. Morgan Chase (JPM)
Well Fargo & Co. (WFC)

Upcoming Appearances

• On Monday, April 9, listen for my weekly appearance on America’s Morning News to talk the economy, the stock market, stocks and more.

• On Saturday, April 28, I will address the American Association of Individual Investors (AAII) Computerized Investing Special Interest Group in McLean, Va.

• Please join me for the Las Vegas Money Show, May 14-17, at Caesar’s Palace. To register, call 1-800/970-4355 and mention priority code 026656 or go to ChrisVersace.lasvegasmoneyshow.com.