Posted by: Howard Silverblatt on April 8, 2011
Earnings have recovered to their pre-recessionary postings with margins near record levels. While higher productively, work them ‘longer and harder’ and low-to-stable labor costs have all helped, the key to the earnings recovery was the reduction in work force initiatives, or as The Donald would have said ‘you’re fired’ (do I need to give equal time if he runs?). Earnings, however, cannot achieve their expected new record highs over the second half of 2011 without an increase in sales. There are just too few cuts left (although some surveys do show that cuts continue, with low pay increases) and if you want to grow the bottom line, you are going to have to grow the top line. Putting aside what could be a contagious M&A bout, not that I have anything against buying sales, that means companies will need to generate sales the old fashion way - getting customers to spend. The major spender has, and remains, consumers. On one hand they have paid down their credit cards slightly but are always ready to charge to the occasion, few homeowners are burdened with new home equity draw downs (guess the old ones are enough), there was that 2% social security tax reduction, and if we’re only reading headlines, the unemployment rate has dropped again. On the other hand, it appears that some of those consumers may be realigning their spending priorities yet again, something about wanting to eat and having to drive (not to worry, we’ve been told it’s not inflationary). The bottom line for them is that there are limited expectations for large increases in consumer expenditures, with potential shifts from Discretionary to Staples. The other spender - which we are hoping will be the big spender, is corporate spending. Earnings, as noted, are near record levels, cash has set its ninth consecutive quarterly high, cash-flow for 2010 was a beautiful thing and our business friendly representatives in Washington (which is still open at this writing; April 18 starts a 2 week recess either way) were nice enough to pass a full (100%) first year tax depreciation schedule, with few strings attached. I wouldn’t put a cash bet on them being as friendly on Repatriation. First quarter earnings reports will start Monday (as of last night the S&P 500 already has 27 issues reported; 4.5%, file attached), with over 70% expected by month-end. I expect to read that companies were spending in Q1, and doing so at a rate that will produce a double-digit sales increase. Specifically, I calculated that that over 30% of issues are expected to report double-digit sales gains, and for the S&P 500 to show its first double-digit gain in year-over-year quarterly sales since March 2006. The index did manage to post four consecutive double-digit changes in Q4,’09 through Q3,’09, but those were double-digit declines. Financials sales are expected to lead the quarter in growth (25.6% over Q1,’10), but it’s still a story of recovery from the bottom. Energy (24.7%) is partially a percentage pass-along from the price of oil; which brings me to Information Technology (13.5%), the largest sector in the index (18.0%; Financials are 16.0%, and Energy is 13.2%), and therefore, the one with the most impact. IT has become (for some, and me) a forward indicator for company spending. The logic is that you cannot expand without it, so their backorders, similar to manufacturing orders, tell a story. We’ve seen IT sales post double-digit gains for most of last year, which given their 2009 numbers was least they could have done (similar to the high current Financial gains), but now the easy comparisons are gone, and the growth rate has declined. The sales gains in IT are broad, with almost 30% of issues expected to post a 20% sales increase (year-over-year). The implication is that spending is starting to pick up past the recovery level lows to where eventually new jobs might be created - and without jobs the recovery cannot proceed. There are few signs of massive production or plant expansion (in the U.S.), and I’ve seen few major product launches (outside of Apple; my teenage daughter still loves them, even if the NASD loves them 40 less: from 20.49% to 12.33%; note the 100 adjustment should reduce volatility, but increase the cost of strategy plays against the 100 index), so I hold out little hope for quick hiring. However, as sales increase, and at this point 2011 looks like a double-digit gain, companies will commit to producing more, adding a few hours, then maybe a shift, and at some point eventually hiring. Then with more jobs, more people will spend, companies will produce more…. then the cycle will truly start turning up. Of course, when companies start hiring, spending more money, and investing more, we can all complain about their dwindling margins - but that will be something nice to complain about.
See file for charts and data Sale On.doc