Tuesday, November 20, 2007

Well, I'll Be Damned.

The one thing I regarded as really certain didn't come true this week. The Big Picture blog now reports that earnings of the large corporations listed on the S&P 500 fell 27.8% from a year ago. Operating earnings fell too, although somewhat less, 8.5%.

What is remarkable about this is not the fact that earnings fell, that have happened often in the past and certainly wasn't anything I thought wouldn't happen again. No what was remarkable is that this was lower, indeed much lower, than was expected in official estimates in the beginning of the quarter. At the time, earnings was estimated to have fallen just a few tenths of a percent. But instead of outperforming estimates as they have always done during the more than 10 years that I've followed these numbers, for once they underperformed-and underperformed very significantly.

The reason for this extremely rare underperformance was a few extraordinary events, such as General Motor's $39 billion tax charge and the massive write downs by several financial companies. This is however not to suggest that that number is somehow the objective indicator of corporate performance. So-called operating earnings, excluding one-time events such as tax charges, are virtually always higher than overall earnings as almost all "extraordinary items" have a negative effect on earnings. While "true" earnings didn't decline as much as 27.8%, it arguably declined more than 8.5%.

Official estimates, which except for this quarter have always been too low just before the earning season but too high the months before, still imagine earnings will rise 5.9% for the fourth quarter. While lower than the 9.9% estimate a month ago and 7.6% number a week ago, that is still far too high. Particularly given the likelihood of more write downs, the actual number is more likely to be close to zero or even negative.

Given how this includes a significant boost to earnings of multinationals from the weak dollar, such a weak number certainly is indicative of a recession.


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