Net Net: Promoting innovation and managing change
Net Net: Promoting innovation and managing change

Outlook for company profits is getting pretty ugly

Earnings & lowered expectations

While the headlines have been all about emerging markets and the beginning of the end of money printing, an even darker prospect lurks in the shadows: considerably weaker corporate profits.

Fourth-quarter earnings have been perfectly fine, with about 70 percent of S&P 500 companies topping analyst expectations—but forward guidance has been brutal.

Some 59 percent of those companies have lowered their outlook, according to The Earnings Scout, contradicting the widely held narrative that the economy is beginning to achieve the escape velocity it needs to attain a full-fledged recovery.

"Fourth-quarter numbers are actually stellar," said Nick Raich, CEO at The Earnings Scout, which closely tracks a variety of profit trends. "But that doesn't matter. The fourth quarter was priced in six months ago. It's all about the revisions to the first quarter and beyond."

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Raich's methodology looks beyond simple earnings beats and misses, and pays more attention to rate of change—or delta—that focuses on growth compared with prior periods.

(Read more: Stocks down 4% in January! If history repeats ...)

Though he is normally bullish on the state of corporate America and the profit prospects for its member companies, he has grown concerned that the outlook for 2014 has dimmed.

It has been more than the usual maneuver of beating a much lower bar for expectations—a game that companies have played well since the last recession. Instead, Raich believes the downcast sentiment stems from worries about future growth, as well as the impact that Fed policy changes will have on operations—in particular, what will happen if interest rates start moving higher.

"We saw improvement in underlying earnings expectations for the past two years," he said. "We're seeing a deterioration in those trends. The magnitude in downward revisions has worsened. That's a big reason stocks are under pressure."

(Read more: Never mind EM drops, US companies drive stocks: Bogle)

In fact, the market has weakened so far in 2014 after an outstanding gain of 29 percent in the last year, when earnings grew about 5.7 percent.

It has lately been a different story. The index is off 4 percent as market volatility has increased and worries grow on a number of fronts.

Currency troubles in emerging markets have raised doubts about global growth, and the pullback of stimulus from the Federal Reserve has increased fears that the market's levitation act since March 2009 has been solely due to central bank largesse and will reverse once the Fed is out of the game.

Market sentiment has reflected those concerns.

(Read more: After Fed, focus shifts to emerging markets)

Respondents to the American Association of Individual Investors survey have turned bearish for the first time since August, with 32.8 percent expecting the market to be lower in six months. The survey had been showing elevated levels of neutral sentiment but has turned increasingly negative with the slide in major averages.

Thursday's trading saw the averages look to erase the big tumble of Wednesday as emerging market jitters intensified and the Fed announced another $10 billion decrease in its monthly liquidity program. But the market landscape could change considerably should corporate profit worries persist.

"The bottom line is I don't think the Fed's going to be able to completely taper down to zero without running the risk of derailing the recovery that we've had the last several years," Raich said. "They're going to have to stay in the game longer than we expect."

—By CNBC's Jeff Cox. Follow him on Twitter @JeffCoxCNBCcom.


The percentage of companies lowering earnings guidance and the attribution was misstated in an earlier version.