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Why investors should brace for ugly earnings season Add to ...

The second-quarter U.S. earnings reporting season kicks off Monday, and the numbers could be ugly. How ugly? It’s hard to tell – companies aren’t dropping a lot of hints.

With just days to go before traditional early-reporter Alcoa Inc. issues the first major earnings release of the quarter, the outlook among stock-market analysts is downbeat. According to S&P Capital IQ, analysts’ consensus estimate is that S&P 500 profits in the quarter fell 1 per cent from a year earlier – which would be the first year-over-year decline since the 2009 third quarter. (Thomson Reuters is less pessimistic, pegging the consensus estimate at a 5.8-per-cent rise.)

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The accuracy of the consensus estimates are always a big question; indeed, the actual earnings have routinely beat the analysts’ targets in the past couple of years. This quarter, though, the analysts’ best guesses are even less educated than usual, because corporate guidance has slowed to a trickle. And that, argues Pierre Lapointe, could mean we’re about to get surprised to the downside.

Positive guidance dries up

Mr. Lapointe, global macro strategist for Brockhouse Cooper, noted in a report this week that the number of both positive and negative earnings “pre-announcements” from U.S. companies – guidance disclosures that steered analysts to either raise or lower earnings expectations – was at historic lows in the second quarter. Especially worrisome, he said, was the fact that positive announcements fell to their lowest level since 2000.

While the second quarter is historically the slowest quarter of the year for positive pre-announcements, the slowdown this year was glaring. In June, only 19 companies guided higher, the smallest total in 12 years of record-keeping. Only 25.7 per cent of all guidance in June was positive – near the low end of the post-recession range, and below any level seen during the 2001-07 economic expansion.

Brace for bad surprises

Mr. Lapointe said the thin guidance for the second quarter raises doubts about analysts’ consensus forecasts – which continue to point to global earnings growth of more than 12 per cent over the next 12 months, despite looming economic and financial storm clouds.

“The fact that companies are not issuing outlooks should ring a bell for investors: If company managers … do not feel confident guiding the market, how reliable are analysts’ expectations?”

He predicted we’ll see “more surprises than usual” this earnings season – and they’re more likely to be unhappy surprises than happy ones.

“In a context where the economy is slowing down and consensus expectations have not been cut significantly, the risk is that we will get more earnings misses than usual.”

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