The weak dollar has definitely not been all bad for business and investors, as of late. While the weak dollar and the stock market are both impacted by economic conditions, stocks have been holding above 12,000 for some time. In spite of ongoing negative news about credit and housing, and many bad earnings reports, strong earnings from big names have helped keep traders in the fight.

Google announced earnings after hours Thursday and surprised the market with an incredible 30% spike in first quarter earnings. It easily topped analyst estimates for revenue and earnings per share. Along with crediting business adjustments, the company also cited an increase in global demand for its revenue growth. In fact, it said for the first time in 9 ½ years, global sales outpaced US sales. They said the weak dollar had increased demand for the Internet search engine’s advertising opportunities.

St. Louis-based seed company Monsanto also had a strong earnings report recently. It too cited global sales growth and the impact of stronger global interest in the ‘cheap’ US-based seed companies products. The cheap price according to foreign buyers is due to the relative strength of their currencies to the dollar.

It is not just the foreign demand for cheaper US-based products that has led to some higher earnings and revenue reports for US companies. Levi Strauss and Company credits its four percent revenue growth in its recent fiscal quarter to the weak dollar. The company said the currency adjustment for the weaker dollar contributed to the entire four percent revenue gains, which directly impacted its bottom line of 12% earnings. Obviously, from a practical standpoint, this doesn’t necessarily mean the company has improved its business practices, but four percent revenue looks better to investors.

Businesses that maintain a strong global presence have definitely been more self-sustaining during the tough times in the US economy. As many companies report down earnings, companies that maintain a strong global revenue stream have been surviving, and thriving at times. Even most companies that have been drawing more business from the weak dollar, however, would likely agree that it would be nice to see the US economy head north in the near future. A rising dollar would likely tie to increased US consumer confidence, more domestic sales, and better margins through those global sales.

Market Recap

US equities surged Wednesday, with the Dow gaining more than 250 points on the day. IBM’s strong earnings report from Tuesday evening helped drive Wednesday’s trade. Thursday, it was Google’s turn to excite the market. Equities were virtually flat during regular trade, with the Dow up 1 point and the NASDAQ and S&P down 8 and up 2, respectively. After hours, though, Google surprised with a 30% spike in first quarter profits. The company’s after hours share price soared $76, or 17%. Earlier in the day, Merrill Lynch reported a first quarter loss. Gas prices surpassed $3.40 on average and rises are expected.

Neil Kokemuller
Thursday, April 17, 2008
10:36 PM EST

The change in language carried the implied threat that G7 central banks and governments could wade into markets to punish speculators should volatile currency moves they see as excessive persist.

The shift was seen as a concession by Washington to eurozone governments, which have voiced growing dismay over the relentless rise in the euro to record levels triggered by the plunge in the dollar's value.

Since early this year the euro has soared nearly 10 per cent against its US rival to levels above $1.59, while the dollar has also sunk nearly 11 per cent against the Japanese yen.

Currency strategists said that the G7's move was likely to give a modest boost to the dollar and weaken the euro in the short term. Eurozone policymakers were pleased with the shift in G7 stance. “This change shows a concern not seen for years,” Tommaso Padoa-Schioppa, the Italian Finance Minister, said.

http://business.timesonline.co.uk/tol/business/economics/article3739802.ece

The beginning of the downturn in earnings is clearly visible from this chart. However, analysts have hardly scratched their earnings numbers at all. This view is reaffirmed by the numbers from my colleague in quant land, Andrew Lapthorne, shown in the tables below. So far the downgrading of estimates has been highly constrained to the financials (and to a lesser extent the consumer sector in the US for 2007). Roughly speaking US earnings ex financials have been revised down by 1.5% compared to nearer 4% for the market as a whole.





I've had several conversations of late with both buy and sell side firms who have been busy trying to get their analysts to bring down their estimates. The response from the analysts has been exceedingly similar across the various institutions. The analysts all acknowledge the sense of lowering forecasts in aggregate. However, when they discuss such a move with the companies they cover, the companies. response is that it won't happen to them. This creates a fallacy of composition problem in which all the analysts think 'their' stocks are immune from the influence of the cycle!

Memo to analysts: companies haven't got a clue

One our analysts (thanks Stefan) has provided me with several examples of the sort of lines that company management are spinning. For instance, the following comes from Sopra group (a specialist in "industry specific solutions (Banking, Human Resources and Real Estate"), "We have made the right choices in terms of positioning and we have implemented a successful business model fuelled not only by technological development but also by both the trend towards outsourcing and enterprise consolidation. We don't believe that our business model is subject to a cyclical downturn that is often talked about these days."

Or this from Parametric Techology Corp, "We are mindful of current investor concerns about the economy. However, our forecast continues to support our confidence in our ability to execute our plan... These customer initiatives have been driving investment in our solutions for at least two years, and we believe customers would only accelerate them in a more difficult economic environment." I love this latter one, effectively saying a recession is just what our business needs, we will make even more money in a downturn!

Now of course, I am a well known critic of talking to company management (see Chapter 12 in Behavioural Investing for the detail on this). In general the evidence suggests that company management doesn't know any better than we do, especially when it comes to predicting the future.

For example, the chart below shows the results from the Duke University CFO survey. In the survey, participants are asked to rate their optimism over the outlook for both the economy and their own firms. Strangely enough they are always and everywhere more optimistic about the outlook for their own firm than they are about the economy as a whole. This is yet more evidence of the bullish bias that I was describing in the last Mind Matters. The latest survey carried out in December 2007 shows CFOs are around 57% optimistic about the economy (a relatively low reading) but are 68% optimistic about the outlook for their own firms!



I must also confess that I am disappointed (although not surprised) that analysts on average appear to be incapable of forming a view without the endorsement of company management. One must wonder why we pay legions of analysts if they are simply drip fed the management views like quasi IRs!

One of the few surveys I keep an eye on is the Conference Board CEO survey. This survey has reasonable predictive power when it comes to earnings growth. It tells a very different story from the ones discussed above. These guys are most definitely not optimistic about the outlook. They are expecting growth to keep sliding away, and that isn't good news for profits!



What is in the price?

Of course, pretty much every investor I have talked to this year has told me that "No one believes the analysts." In part this may be true. However, it is clearly the case that when a stock disappoints it still gets punished severely. So whilst top-down investors may not accept the analysts. numbers, I can't help but wonder if some of the more bottom-up inclined are still shocked when something goes awry.

Others have told me that I'm worrying needlessly, as equities have already moved to discount a slowdown, so whilst the analysts may be behind the curve, markets aren't. Whilst this may be comforting, is it actually true?

I decided to check what the markets were implying for earnings contractions. Being a simple soul, I came up with easy way of doing exactly this. Now I don't hold with the use of forward P/Es as I think they are largely meaningless. However, for this exercise I put aside my personal biases against this measure. I just take the current forward P/E and compare it with the historic average of the forward P/E. The extent to which the current forward P/E is below its average is presumably a measure of the expected earnings decline. As the table below shows, on this basis the US is pricing in an 8% decline in earnings, Europe a 24% decline and the UK a 23% decline.



However, to my mind there is a problem with this process, and that is the historic forward P/E series is distorted by the experience of the bubble in the latter half of the 1990s. This was, of course, an incredibly unusual period, so one could argue that it should be excluded from the calculation of the average forward P/E. The table below shows the impact of excluding the bubble from our calculations. Now the US doesn't imply any drop in earnings, Europe implies an 11% fall in earnings, and the UK implies a 4% decline in earnings.



Now how does this implied decline in earnings stack up against the empirical evidence on the scale of earnings declines in recessions? Well, the history of 'operating earnings' only goes back as far as the analysts. forecasts (i.e. the early to mid 1980s). This only gives two recessions to examine, and both of those have been exceptionally shallow. However, even in these shallow recessions earnings fell by 20% in the US, and 40% in Europe.

If we want to broaden our sample (always a good idea) we have to turn to reported earnings (generally my preferred measure). The chart below shows the European version of a chart I have often shown for the US. It simply plots earnings (in log terms), and shows that over the course of a full cycle they have never grown by more than 7% p.a. Recently we have been at the very top edge of this band. However, more importantly once earnings have peaked they often return to the low edge of the growth bands. This represents a 45%- 50% decline in earnings. This number holds for the US, Europe and the UK. So if you want to have a worse case scenario then a figure like this should be used.



Relative to this benchmark, the implied earnings declines are paltry. So the idea that the equity markets are anticipating a recession unfortunately looks to be yet another example of the triumph of hope over reality. I guess I really haven't learnt to stop worrying and love the bomb just yet!

Published on Tue, Apr 8 2008, 06:00 GMT

As we’re not licensed financial advisors we can’t tell you what to do with your money. However, we’ll share with you what we like to do with ours and let you do some more research for yourself.

The 65 week moving average is our price floor. It’s a place that price likes to visit from time to time each year or two. But we also noticed that when price gets real close to that moving average the stochastic likes to reverse upward. Those are labeled for you above.

We’re waiting for the next one to occur and suspect that within two to three months the next buying opportunity will come our way.

# Overall numbers significantly worse than expected. Headline jobs supported by an 18,000 government rise, but private jobs down 98,000, after -109,000 in Feb and -79,000 in Jan. The Q4 average was +45,000 so the turnaround has been very fast. Manufacturing (-48,000) and construction (-51,000) were worst but also a 35,000 drop in business services; small declines in retail, financial… Trends are awful; unemployment will keep rising, squeezing spending. –Ian Shepherdson, High Frequency Economics

# The recession that has yet to enter its most intense phase will continue to extract a painful price in terms of overall output and the rate of productivity. We do expect that firms will continue to shed workers, but in levels that will not resemble the retrenchment in the labor sector in the aftermath of the dot.com crash, but will be significant enough to create a noticeable reduction in aggregate demand. We expect that the shape of the recession will see one trough reached in the spring of 2008 and the early winter of 2009. –Joseph Brusuelas, IDEAglobal

# The softness in March payroll employment was relatively broad based across industry classifications with the biggest losses coming from sectors such as construction, manufacturing, and temporary help. Within construction, the bulk of the job loss continues to be tied to the fall-off in homebuilding but we are also beginning to see some significant weakness in nonresidential workers.–David Greenlaw, Morgan Stanley

# Interestingly, job losses in the construction sector were nearly evenly split between residential and commercial and suggest that issues in the real estate sector are spreading beyond housing… One noticeable trend is that while the pattern of large job cuts is unchanged, the diffusion index of industries creating jobs continues to fall… The spread of labor market weakness bolsters the case for a recession this year and is among the most troubling aspects of the report. –Drew Matus, Lehman Brothers

# In past recessions the numbers of job losers climbed well over 100k per month. The downbeat labor report confirms why consumer confidence sank so deep this quarter and why the FOMC will have to keep lowering interest rates at their future meetings. –Brian Fabbri, BNP Paribas

# Despite continued protestations from some, the U.S. economy is in recession. GDP likely grew slightly in the first quarter, but employment, production and other more relevant data show declines. Industry data such as the ISM reports suggest that the broader retrenchment is mild by historical standards, and fortunately asynchronous. Exports (agriculture in particular) are booming, while domestic industries retrench. –Steven Wieting, Citigroup

# While the headline number was a little worse than expected, after correcting for the American Axle strike private sector employment declined at an average monthly rate of about 87,333 in the first quarter of 2008, which is not a particularly shocking number. Declines of this order of magnitude are consistent with our view of a shallow recession in the first half of 2008, with the economy overall projected to decline by just under a half a percentage point, on average, in the first two quarters of 2008. –Brian Bethune, Global Insight

# The clear deterioration in job market conditions over the last several months had been more a function of weak hiring on the part of U.S. businesses, as evidenced by the steady climb in continuing jobless claims as initial claims remained fairly low. This has begun to change, however, and the pace of layoffs is accelerating. –Richard F. Moody, Mission Residential

Compiled by Phil Izzo, The Wall Street Journal

"The first day of the [financial] year could also be encouraging jewelers to Buy Gold as many had exhausted their inventories but had not bought ahead of their book closing."

Local Gold Prices dipped below 12,000 Rupees per ten grams, but "we are missing the dip" as one dealer put it, because India's bond and forex markets were closed Tuesday for book-keeping.

"April and May are the busy months for weddings, so people are expected to keep buying," reckons Ajay Singh at Kiran Jewellers in Jaipur.

"Demand has been good in the last 15 days."

Losing nearly 6% from Monday morning's high, the Gold Price finally bounced off $889 per ounce this morning, a level last seen at the start of Feb.

For French and German investors looking to Buy Gold today, the price sank to €570 per ounce – more than erasing this year's gains to date.

The Gold Price in Sterling dipped below £455 per ounce – more than 11% off the all-time record of March 17th – as the Pound slid to a three-week low beneath $1.9740.

"The Euro's upward trend lost some momentum [Monday] but that doesn't change the underlying bearish Dollar sentiment," says Matthew Strauss at RBC Capital Markets in Toronto.

"Although some came into the year thinking the worst was behind us, the first quarter was clearly one in which markets struggled to get a handle on just how deep the problems in the US economy really were. To call a bottom now is still a very risky call. It's too early to say the worst is behind us and the Dollar's in for a sharp rebound."

The first-quarter certainly proved disastrous for UBS, the former No.1 Swiss investment bank. Today announced a further $19 billion of credit-linked writedowns.

Marcel Ospel, the UBS chairman, finally announced he is stepping down. The bank is now seeking to raise $15bn via a new rights issue.

Last night on Wall Street, Lehman Brothers – the fourth largest securities firm in the US – said it is looking to raise $3 billion in a new sale of equity after repeatedly denying that it is the "next Bear Stearns".

Lehman's stock lost 26% of its value last month.

Today Deutsche Bank, the largest bank in Germany, admitted to a further €2.5 billion ($3.9bn) in credit-related writedowns – "equivalent to more than a third of its 2007 net profit," as the FT notes.

Chief executive Josef Ackermann – whose contract until 2010 was yesterday confirmed by the supervisory board – said in a statement that "conditions have become significantly more challenging during the last few weeks."

Published on Tue, Apr 1 2008, 12:08 GM