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Positive earnings quarter inspires optimism

Sat., July 30, 2005

NEW YORK – Wall Street is enjoying a surprisingly good second-quarter earnings season – so good that investors are discounting predictions of an economic slowdown later this year and betting instead on strong profit growth and higher stock prices.

In a quarter where oil prices remained near record levels, 69 percent of companies within the Standard & Poor’s 500 index reported better-than-expected earnings. The fears that high energy prices would spur inflation or reduce consumer spending – or both – appear to be unfounded.

“You have here a quarter where, for the first time, we had these high oil prices throughout the entire quarter, and you can see from earnings that the consumer attitude toward these prices is benign,” said Joseph Battipaglia, chief investment officer at Ryan Beck & Co. “I think it’s safe to say that those attitudes will continue, and that bodes well for the second half.”

Of the S&P 500 companies that reported second-quarter earnings as of Friday morning, 256 out of 370 have surpassed analysts’ earnings-per-share expectations, according to data gathered by Thomson Financial.

Another 15 percent, or 57 companies, reported earnings that matched analysts’ estimates, while 15 percent, another 57 companies, fell below Wall Street’s forecasts.

“This has obviously been a very good earnings season,” said Hugh Johnson, chairman and chief investment officer with Johnson Illington Advisors in Albany, N.Y. “Now it hasn’t been good across the board – just look at auto manufacturers – but over a wide range of companies, it’s been positive.”

Some of the outperforming sectors include industrial companies like Alcoa Inc., the Dow component that kicked off earnings season this month with strong results; technology companies and energy companies. This last group has benefited from higher fuel prices due to the surge in crude oil futures that has sustained itself throughout the second quarter.

But while oil’s lofty price has helped energy companies, it has had little effect on other sectors. That’s backed up by Friday’s reading of the nation’s gross domestic product. The Commerce Department said the GDP grew at an annualized rate of 3.4 percent for the quarter – an impressive result given that oil prices remained between $50 and $60 per barrel for much of April, May and June.

That would appear to augur similar results for the third quarter, but you wouldn’t know it from the way corporate America has been hedging its bets. For every S&P 500 company that has issued a positive or better-than-expected earnings forecast for the third quarter, 2.5 companies have issued a negative one, Thomson Financial said.

Investors might want to be a little skeptical about companies that overly downplay their chances for a strong quarter, analysts said. A warning should be heeded, especially if the company is specific about its concerns, but some companies are more interested in simply lowering analysts’ expectations – so they can be easily surpassed in October when third quarter-earnings come out.

And some companies are worried that an overly bullish forecast will put them at odds with the Sarbanes-Oxley corporate governance law, which prohibits companies from making overly optimistic comments without a strong reason for doing so.

“There’s no upside to being positive about your company in the Sarbanes-Oxley world,” Battipaglia said. “Might as well lower your numbers and have a nice upside when you release your earnings.”


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