Monthly Market Monitor - May 2009

Attention Shifts to Earnings

Markets continued to rally in April after bouncing off of March lows. Investors, at least for the time being, are putting cash to work in both equities and bonds. All of this comes despite a fairly dismal recent earnings picture. Many strategists therefore believe that investors are shifting their focus to an eventual recovery in earnings growth. Standard and Poor’s recently released the final earnings numbers for the S&P 500 for the fourth quarter of 2008. GAAP (generally accepted accounting principles) earnings per share were -$23.25, the first time the number was negative since S&P began collecting the data in 1926. A large portion of the loss can be attributed to write-downs in the financial sector. While the final numbers for the first quarter of 2009 have not yet been released, year over year earnings declines are projected by analysts for almost every sector in the S&P 500. As outlined in the table below, about 40% of companies in the S&P 500 had reported earnings as of April 24, with the median reported earnings per share down 23.5% from the first quarter of 2008. On the positive side, 62% of the companies that had reported actually beat the consensus estimates, while only 28% had fallen short of consensus. This suggests that analysts have now sufficiently marked down earnings estimates and that results for many companies are not as bad as some feared. Many strategists are now estimating an earnings trough in the third quarter of 2009. However, given the many uncertainties in the economy, both stock market and earnings volatility are likely to continue.

Source: Ned Davis Research 4/30/09

Record Budget Passes

Congress passed a $3.5 trillion budget outline for 2010 with major implications for health care, energy, and education. Current estimates put the budget deficit at $1.2 trillion for fiscal year 2010 (which begins October 1).1 For investors, this is likely to heat up the inflation debate in coming months. The current recession has put inflation concerns on the back burner for now as economic weakness has kept a lid on prices. An eventual recovery, however, could spark inflation concerns. And there are some recent signs that the worst of the recession could be over. While the first quarter GDP decline of 6.1% isn’t good news, it was a slight improvement for the fourth quarter of 2008. In addition, consumer spending (which accounts for about 70% of GDP) rose 2.2% in the quarter. Some analysts fear that the surge in government spending, combined with liquidity injections from the Federal Reserve, will lead to an excess of money flooding the economy. Whether or not this eventually leads to a significant rise in inflation will depend on the Fed’s ability to withdraw liquidity from the market as the economy recovers. One area that investors with inflation concerns traditionally turn to are TIPS (Treasury Inflation Protected Securities). TIPS are Treasury bonds, backed by the U.S. government, but unlike a traditional government bond, the principal and interest payments on TIPS adjust to track changes in inflation. Specifically, the principal and interest on TIPS are indexed to the CPI-All Urban Consumers (CPI-U) so that increases in consumer prices are directly translated into higher principal and interest payments on TIPS. Whether or not TIPS return more than standard Treasury bonds will ultimately depend on the amount of underlying inflation.

1. Wall Street Journal, 5/1/09

The views are those of Cameron Lavey, Senior Investment Analyst, Research Department/ING Advisors Network, and should not be construed as investment advice. All information is believed to be from reliable sources; however, we make no representation as to its completeness or accuracy.

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