Google's Miss Highlights Big Worry on Wall Street
Google's stunning earnings disappointment on Thursday is a dramatic example of what has become Wall Street's latest worry: revenue is coming in much worse than anyone thought.
Overall this earnings season, third-quarter profits have managed to be a shade better than the doom-and-gloom forecasts.
But company top lines—or the revenue generated that should be driving those bottom-line profit beats—have been even worse this quarter than they were last.
Google, which released results earlier than expected due to a printer error, showed that the Internet-search giant missed on both sales and profits. (Read more: Google Reports Big Earnings Miss )
The Google results sent the broader market lower, though the damage was most pronounced on the Nasdaq, which lost 1 percent. (Read More: Nasdaq Tumbles on Google Selloff )
CEO Larry Page apologized on the company's earnings conference call and talked about the firm's "strong quarter."
Google's misfortunes raised questions of whether it could be a market game-changer.
With about one-third of the companies on the Standard & Poor's 500 reporting so far, a healthy 65 percent have beaten the low bar set for profit expectations in the third quarter.
But while that has been happening, just 42 percent have topped revenue forecasts.
That is well below the historical average of 62 percent and even worse than the anemic second quarter, which saw a sales beat of just 44 percent. The market has flatlined so far during earnings.
Investors have shown a tendency as the economy works its way back from the financial crisis and ensuing recession that ended in 2009 to reward companies growing revenue and penalize those who fall short even if they beat on profit.
"We think focus will be on the top-line, which was rewarded most for positive surprises last quarter, " said Savita Subramanian, equity and quant strategist at Bank of America Merrill Lynch. "With cost structures already lean, sales growth is increasingly important for companies' ability to grow earnings." (Read More: Earnings Look Better So Far, but Market May Not Care )
Keeping with that line of thinking, the pros at Strategas are advising investors that, based on current trends, the best bet will be to go defensive.
The firm said that when earnings pull back to these levels, economic growth usually takes more than three quarters to rebound.
They recommend a portfolio mix of long technology staples, consumer staples and health care, and short consumer discretionary.
"With the market down from its September high, defensive shares have retaken leadership relative to cyclicals over the past month, " Strategas' Nicholas Bohnsack and Emily Jones said in a note. "We remain in favor of a more defensive allocation for the intermediate term."
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