ARE EARNINGS BOTTOMING?
As I have often stated lately, it will be difficult for stocks to make a sustained upward move until there are signs that the trough in earnings have been made. There is simply no reason to own an asset that you do not believe will produce higher future cash flows. As of now we are continuing to see deteriorating balance sheets across the board. Earnings have fallen roughly 28% from peak to trough (using a 4 quarter average). During the ’01 bear earnings fell 30% from peak to trough.
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Historically, earnings have grown at roughly 5.7% per year. As the chart above shows we are falling back in-line with the historical average (the black line), however, I am skeptical of a trough in earnings. This recession is already far worse than the ’01 bear which leads me to believe that the profit decline will be larger this time around. In addition, profits have a tendency to overshoot to the downside. During both the ’91 bear and the ’01 bear profits overshot the historical average by a wide margin.
On the bright side, analysts do appear to be catching up with estimates, however, I would expect the weakness in earnings to last at least through Q2 of this year.
