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A Briefing for Investors

Economists See Corporate Profits Heading in 2 Different Directions

June 10, 1998|Hal Paul, Bloomberg News

U.S. corporate profits may not be in as much jeopardy as the headlines suggest these days. Or maybe they are. Here are two views--one optimistic, one pessimistic--on what profits might look like later this year and what that means for the stock market.

Slowdown is only in energy and technology.

Numbers never lied as much as they did in the first quarter. On the face of it, 1998 looked like it was off to a dismal start--profits of companies in the Standard & Poor's 500-stock index rose a collective 4%. It was the worst performance since the fourth quarter of 1991, when the economy was emerging from a recession.

A look behind the numbers, though, shows a different picture.

When the index's 30 underperforming energy companies are stripped out, quarterly profits rose 6.4%, according to IBES International Inc., an earnings analysis firm in New York. Take out the index's 51 computer-related shares, and year-over-year profit growth was 8.5%.

That pace is good enough to sustain the stock market and keep prices afloat until later this year, when analysts expect earnings growth to pick up.

"There will be a disparity in the profit performance of companies depending on the industry they are in, but people have been more pessimistic than results show," said Michelle Clayman, chief investment officer at New Amsterdam Partners in New York. "The overall numbers have been distorted."

The second-quarter earnings environment may be a mirror image of the first, IBES said. Analysts expect S&P earnings to rise 5.9%, hampered by the performance of a couple of marquee groups.

Poor showings from Motorola, Intel and Texas Instruments are expected to help shrink profits in the technology sector 9.1% from a year ago. Producers of so-called consumer nondurables, such as Nike, are expected to see profits slide 4.9%. Earnings of transportation companies are expected to drop 4.5%, led by Union Pacific.

"Will the impact of Asia's slowdown be greater than we feared? I don't think so," said George Cohen, chief investment officer at Cohen, Klingenstein & Marks in New York. "There are a bunch of ways to see why, and one of the ways is to strip out the sectors that end up being the quarter's big devils."

High-profile earnings disappointments tend to tarnish investors' overall profit expectations, and the U.S. stock market has suffered its share of those recently.

The Dow Jones industrial average set its last record at 9,211.84 on May 13. After the close of trading that day, Hewlett-Packard warned that fiscal second-quarter profits would fall short of expectations.

Also last month, Dell Computer's fiscal first-quarter profit failed to match the high end of analysts' forecasts, prompting an 11% drop in its shares the following week.

Still, most analysts expect earnings growth to pick up as the year wears on. They expect the year-over-year numbers for the S&P to accelerate to 9.8% in the third quarter and 14.4% in the fourth quarter, according to IBES.

"U.S. consumers are benefiting from high incomes and high employment," Cohen said. "People and businesses will spend more. That's a reason to believe that we'll get back on track."

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