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CNBC.com
Earnings season got off to a better-than-expected start this week, fueling optimism that stocks may continue to bounce back from the recent pullback.
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The renewed bullishness came from financial bellwethers like Goldman Sachs [GS
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], JPMorgan Chase [JPM
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] and Citigroup [C
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]. Tech companies such as Intel [INTC
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] and IBM [IBM
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] also contributed to a feeling that the worst had passed for corporate America.
Finally, relief that stocks weren't going to give back the 40 percent gains they achieved during the March-to-June rally helped rejuvenate market momentum.
"Everyone and their mother was expecting the market to collapse, and when that didn't happen it basically set off a short-covering rally," says Michael Cohn, chief investment strategist at Atlantis Asset Management in New York. "How far it goes—the jury is still out for probably a week or two to see if earnings really do come in better than expected."
Stocks had come off more than 5 percent from the massive rally the major indexes saw after the March lows.
After a series of tough unemployment readings, market analysts began shooting holes in Fed Chairman Ben Bernanke's much-cited "green shoots" espousal of economy recovery. Moreover, traders and non-traders alike began talking about a "head-and-shoulders" pattern forming in the market that was indicating a strong move lower.
But when earnings reports began to flow and important companies were making upward revisions for 2009, that indicated market armageddon was not at hand.
"When you hear people who have never set foot on a trading floor talking about a head-and-shoulders pattern, the contrarian streak comes out for investors," says Quincy Krosby, general market strategist at Prudential Financial. "The guidance coming out of this quarter was going to be crucial for the market as would some of the data points. In many ways, the market leaders did not disappoint."
Indeed, the focus seemed to be far more about the future than the past as Wall Street struggles over what type of economic recovery is at hand.
"We can actually put in numbers that were better than expected and have the market react positively to that," Art Hogan, managing director at Jefferies, told CNBC. "It's all about the guidance."
Unemployment remains the biggest drag on the economy, so how companies are reacting to consumer weakness will play a key role.
"If you distill all of the data points, all of the Washington chatter, you are looking for demand. Can the consumer start helping the economy, and are corporations beginning to start buying?" Krosby says. "You're looking for that velocity of money and you're looking globally. When companies come out and say they think the worst is over, that resonates."
Second-quarter earnings are significant as well in that they mark a turnaround in expectations.
Where investors were content for the past several quarters at beating reduced forecasts, they are now demanding that companies can show real indications of growth.
"The challenge by the end of the year is to show really good operating results," says Uri Landesman, head of global growth strategies at ING Investment Management. "Now what we're going to be focused on is what's the rate of incline going to be. For the stocks to perform, they're going to have to report legitimately good operating results."
Those results will be key to maintaining market momentum from a technical standpoint, which seems to be the point from which most market experts are viewing Wall Street these days.
Though chatter was predominately upbeat about the market's performance this week, a bad run of earnings news or more chilling economic data points—or some unexpected strong news—will see various support and resistance points tested.
If the Standard & Poor's 500 successful bounces off a level around 780, that would set the stage for a rally, Landesman says.
"There's probably potential upside a couple-hundred points," he says. "The attractiveness of the market depends on how far down you can go. If you use 830 as a potential floor, it's offering you 2 to 1 upside-downside, which is what you want to see."
One of the factors that will influence those technical levels is whether the earnings provide a true picture of what is ahead.
Some analysts worry that the bank earnings, for instance, are clouded by a general surge in equities, and lingering credit problems will resurface in the third quarter.
"Some institutions appear to hold significant bad loans and third-quarter results may not be as encouraging," Takahiko Murai, general manager of equities at Nozomi Securities, told Reuters.
For now, at least, the earnings impact has been mostly to the upside, though it's very early in the season.
"I'm not declaring victory yet," Landesman says. "I still think there's going to be heavy sledding here. It's going to be fits and starts."
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