Earnings will be a challenge for stocks in the coming week, as major bank and tech firms report, along with hundreds of other companies.
The question, though, is whether earnings news will be strong enough to keep the rally going or investors will see it as an excuse to take profits temporarily.
The latter was the case Friday, when tech giant Intel fell after reporting better-than-expected profits and an improved outlook. JPMorgan Chase stock also fell, and its report raised the flag on other bank stocks after loan losses and weaker-than-expected revenues outweighed a strong income number. Both stocks had moved higher ahead of their reports.
"We think the reaction is overdone. The issue for equity markets in earnings is really, about, in our view, the multiple," said Binky Chadha, chief U.S. equities strategist at Deutsche Bank.
This earnings season is a critical turning point since it is the first quarter in 10 where there should be positive profit growth on a year-over-year basis. S&P 500 profits are expected to improve by 8 percent, excluding the financials, according to Thomson Reuters. When financials are included, that number jumps to 186 percent because of the sector's gigantic losses a year ago.
For the most part, analysts expect the earnings news to be a catalyst for stocks in the first quarter. Some companies reporting in the week ahead include General Electric , Citigroup , Goldman Sachs , Bank of America , Google and IBM .
"I think earnings will deliver more than expected. The news we have so far is positive, though the market is taking it badly," he said. Chadha said other factors were worrying investors, including the concerns about Greece's fiscal situation.
David Kotok, chairman and chief investment officer at Cumberland Advisors, said he sees earnings as a driver in the first quarter. "It's a good earnings season. There's no labor cost pressures," he said. Companies are showing margin improvement as they reap the benefit of leaner work forces and reduced spending.
Kotok expects technology to do particularly well this quarter and he is overweight the sector. When Intel released profits, it also reported surprisingly strong margins of 65 percent, the best level in a decade. Margin improvement could be an important story for tech. "That could be sustainable worldwide for several years," he said.
Banks are another story. "We won't know sustainable trends for banks in the U.S. until 2011 or 2012," he said, adding that at that point current prices could look extremely cheap.
Kotok said the market has had an easy run since it began moving higher in March, but the next leg up will be bumpier. "I think the second half is going to be troubled by the economy. I think the market's going to recognize that and reprice and sell off in the late spring, early summer" he said.
Chadha disagrees, however, that markets will be troubled in the second half. "It's clearly the consensus view that we have a good first quarter, first half and then things stagnate and get much worse. I basically don't think that. The fundamentals are that basically corporates over contracted and they over fired, and there's basically a very large gap between final sales and production. There's room for them to expand. That will spark a self-sustaining recovery," he said.
But, he said the economy is not self -sustaining yet, and that fact could make the market choppier in the first part of the year rather than the second half, if his premise is correct.
"We're putting our money on that it will take hold and the market should do a lot better later," he said. Currently, the market's multiple is about 14 on 2010 earnings, and fair value would be closer to 16.5. "So that's potential for 20 percent more upside," he said. His year-end target is 1325 on the S&P 500.
Chadha's year-end target is 1325 on the S&P 500. Kotok's target for the S&P this year is 1250 to 1300.
The Dow in the past week lost 8 points or 0.08 per cent to 10,609, while the S&P 500 slid 0.8 percent to 1136. Financial shares lost 1.8 percent for the week, but the biggest losers were telecom, down nearly 4 percent and materials, off 3.2 percent. Health care was the best performer, up 1.5 percent, while consumer staples were second best, up 0.9 percent.
Treasuries gained in the past week, driving yields lower. The 10-year's yield fell to 3.676 percent, and the 2-year slipped to 0.887 percent.
In the past week, the government's auctions of $84 billion in notes and bonds were well received by the market. At the same time, the flood of corporate debt issuance continued, bringing the total of dollar denominated issuance to $56.7 billion since Jan. 1.
In the past week, spreads widened in emerging markets, as investors worried about Greece's ability to make debt payments. But there was also widening in corporate spreads. Traders have been watching these spreads, particularly as Washington discusses a new tax for banks and some of the consumer driven data in the past week disappointed.
Kevin Ferry of Cronus Futures Management said the widening of corporate spreads is actually just a normal function of the market as it absorbs the new issuance. He and others say the heavy activity is in part being driven by corporations anxious to get deals done ahead of higher interest rates.
"What we've been focusing on for the past two years is very stable and in fact it's at an all time low, but out in the real world getting this (corporate debt) stuff through the pipeline is having the usual effect," he said. Ferry said, for example, the 12-month libor rate hit an all time low in the past week of 0.89 percent.
The dollar lost 0.2 percent against a basket of currencies but gained 0.3 percent against the euro to $1.4379. At the same time, commodities sold off. Oil had five days of losses, finishing Friday at $78 per barrel, a decline of 5.7 percent for the week. Gold lost $8.10 per troy ounce for the week, to $1130.10.
Boris Schlossberg of GFT Forex said the dollar and euro are trapped in a range around $1.45 per euro. "Every time we get positive data on one side of the Atlantic, its counterbalanced by bad news on the other side of the Atlantic," he said. The market responded to comments in the past week from European Central Bank President Jean Claude Trichet about a possible negative quarter in the Eurozone, as well as worries about Greece.
One focus for the euro in the coming week will be PMI data for the Eurozone, released on Friday, Schlossberg said.
In the U.S., the calendar for economic data is relatively light. Markets are closed Monday for the Martin Luther King holiday. Wednesday and Thursday are the big days for data. On Wednesday producer prices are reported, as are housing starts. Thursday's data includes the Philadelphia Fed survey, leading indicators and weekly jobless claims.
The National Association of Home Builders survey is Tuesday, as is the Treasury's international capital flow data.
In the past week, the data pointed to a still very weak consumer. Retail sales were surprisingly negative for December and consumer sentiment was weaker than expected.
"The reality setting in is this isn't an easy recovery," said Diane Swonk, chief economist at Mesirow Financial. Swonk said she expects unemployment to continue to rise and peak sometime this quarter at a level of 10.25 to 10.3 percent.
"We'll still turn profits this year. We've still got productivity growth. This is still a good environment for profits and profit share, compared to wage share, is going to rise. That should support some additional gains in the stock market from where we were at the end of the year, but we've already gotten ahead of ourselves," she said.
She said the housing starts data and PPI data this week should be important. She said PPI should be neutral and the housing numbers will be watched to see what impact there is from the first time home buyers program. "It's really telling about how much government support is needed for this sector," she said.
What Else to Watch
The Obama Administration's plan to tax banks for TARP-related losses rattled investors in the past week and weighed on bank stocks when the news first trickled out. Investors have also been watching every development in Congress efforts to revamp health care.
Now investors will be closely watching Massachusetts to see whether the Senate race there could be a sign that change is coming to Washington. On Tuesday, voters there will choose between Democrat Martha Coakley and Republican Scott Brown in what has become an unexpectedly close race to fill the seat of late Sen.. Ted Kennedy.
The race is being watched as a referendum on President Obama's programs and a sign of what could happen in the mid term elections in November.
Banks dominate the week, starting with Citigroup's report Tuesday. Bank of America, Morgan Stanley, Bank of New York Mellon, State Street, US Bancorp, Wells Fargo and Northern Trust report Wednesday. Thursday's reports include Goldman Sachs, Capital One Financial, American Express, Fifth Third, Keycorp, and PNC. Huntington Bancshares and SunTrust report Friday.
Among tech names this coming week, IBM leads the charge Tuesday. Ebay, Seagate and Xilinx report Wednesday. Google and AMD report Thursday.
Also Tuesday, reports are expected from TD Ameritrade, Forest Labs, and CSX. On Wednesday, AMR, Jefferies, Covidien, Coach, Brinker International, Starbucks, and SLM release results. Thursday's reports include Burlington Northern Santa Fe, Continental Airlines, United Health, Union Pacific, Southwest Airlines, PPG and Xerox
Friday's names include Air Products, Exelon, General Electric, Kimberly Clark, McDonalds and Schlumberger.
There could also be news on Cadbury in the week ahead, as Hershey reportedly weighs a bid and Kraft considers a new offer.
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