Weekly Update-July 21, 2012

By: Michael Vodicka

“But even though earnings have center stage for now, Europe is still in play behind the scenes.”

Stocks managed to eek out  gain for the week in spite of a tough session on Friday that sent the averages sharply lower into the weekend. For the week, the Dow Jones added .4%, the S&P 500 gained .4% and the NASDAQ led after tacking on .6%. The Dow Jones and S&P 500 are now in the red for the month while the NASDAQ is up a mere .1%.

With Q2 earnings season well under way, the action has temporarily shifted away from the Euro zone. There are definitely a lot of different opinions out there about the quality of this earnings season, with some headlines saying the results have been good and others saying they have been terrible. My take is that it’s really somewhere in between. Of the 104 S&P 500 companies that have reported, 74% have beaten earnings expectations.

But the concern is coming from the fact that only 45% have beaten on sales expectations. That is meaningful because margins are at record highs, so any future earnings growth will have to be driven by revenue, because companies have already cut expenses and wages to the bone.

Although that definitely has implications for the pace of earnings growth, earnings are hardly showing any signs of falling off a cliff, like what happened in 2009.

As it stands, total S&P 500 earnings are projected to be about $102 for the full year, which is back to peak levels of $107 from 2007. But back then, the S&P 500 was trading above 1,550, a 15% premium to current levels. So even though we are seeing the pace of earnings growth slow and a slightly more cautious outlook from the CEO’s, earnings are still a strong point as margins and cash on the balance sheet remain at record highs.

Looking forward, this is a huge week for earnings, with 172 S&P 500 companies set to report, including heavyweights like McDonald’s Corp (MCD), Ford, Inc. (F), FaceBook (FB) and the biggest of them all, Apple, Inc. (AAPL).

But even though earnings have center stage for now, Europe is still in play behind the scenes. The Euro-zone ministers approved a bailout for Spain on Friday, but Spanish bond yields continue to tick higher, which means the market isn’t buying the story. Because as anyone with half a brain knows, it’s only a matter of time before the next shoe drops; the next bailout, the next country to get in line for a handout and the next failed rescue package. Because when these countries accept these bailouts, they are supposed to implement tough budget cuts and fix their deficits.

But as we have seen, that simply doesn’t happen, because implementing austerity is political suicide. So for the time being, no real news here, the endless spin cycle continues until the entire Euro zone goes up in a ball of flames as the house of cards crumbles on itself.

Biggest picture, the market appears to be stalling out a bit. As I’ve said before, stocks are doing an amazing job of hanging touch in spite of all these headwinds, which probably has a lot to do with the compelling valuation mentioned above.

This will be a big swing week for the market, so look for results to set the tone for the next few weeks.

Updates:

Baker Hughes, Inc. (BHI) was the big winner of the week, jumping 16% after shares added 10% on Friday on strong Q2 results. This energy-services company has been getting rocked for the last year as demand in natural gas pressure pumping services fell on plummeting prices. But nat gas now appears to have found a bottom just below $2, with prices rallying more than 40% since then. That should work to support shares of Baker Hughes. Longer term, this is a top name in drilling services with tons of growth ahead as the global energy demand continues to grow. So even though it’s been a bumpy ride, this is the place to look for outsized gains in the long run.

Stryker, Inc. (SYK) fell 2% on the wee in spite of chiming in with second quarter earnings of 98 cents that came in directly in line with expectations. That represented a 5% increase in net income from last year, climbing to $325 million. The company saw strong domestic results in its hip and knee segment, but its European markets were a little slower. The company’s MedSurg (medical equipment/surgery) division was also a bit slower as hospitals scaled back on capital spending. Overall, it was a pretty solid quarter, but weakness in medsurg and European markets have analysts a bit concerned about growth. But in spite of those head winds, Stryker is still a market leader in orthopedics and medical devices, and shares are only trading 10% away from the 52-week high just above $57.

And finally, another big winner on the week, with Check Point Software Systems, Inc. (CHKP) jumping 9% on a good quarter of its own that came in ahead of expectations. This stock had been getting banged up for the last few months, falling from above $65 in April to a short-term low just north of $44. All in, that’s a 32% decline. But with the fundamentals back on display with another strong quarter, the market realized shares had fallen too far.

That’s all for this week, but until next time, here is an article discussing how the record drought is sending grain prices shooting higher. Corn and soybeans have been raging higher, so anyone in on the ag trade is making some serious cash right now. Enjoy.

Crop Traders Extend Bullish Streak on Drought

Your Investment Partner,

Mike

ABOUT THE AUTHOR

Michael Vodicka

Michael Vodicka is the president and founder of the Vodicka Group Inc., a licensed investment advisor (Series 65) and a financial journalist.