NEW YORK – Despite a handful of high-profile disappointments, second-quarter earnings have come in above Wall Street's expectations thus far, giving investors confidence in the continued strength of the economy and corporate America.
As of Friday morning, 202 of the Standard & Poor's 500 index (search) components had reported earnings. Of those, 145 companies, or 72 percent, reported earnings above Wall Street analysts' expectations, according to Thomson Financial.
Another 31 companies, or 15 percent, had earnings right in line with estimates. And only 26 companies, or 13 percent, failed to meet forecasts.
"Obviously, we've had a very strong second quarter, probably stronger than many people had expected," said Ken Tower, chief market strategist for Schwab's CyberTrader. "I think it's fair to say that all of the analysts looking for an economic slowdown have been premature when you see 72 percent of companies beating expectations."
Of the 18 Dow Jones industrials that have reported so far this earnings season, two companies — Citigroup Inc. (C) and General Motors Corp. (GM) — missed Wall Street's estimates. Merck & Co. Inc. (MRK) and 3M Co. (MMM) met expectations, while the rest of the Dow companies beat the Street.
Yet there could be trouble brewing, as many companies have lowered their earnings or revenue projections for the third quarter. According to Thomson, there have been 2.8 negative earnings outlooks for every one positive outlook issued among the companies in the S&P 500.
On average, that's higher than the 2-to-1 negative-positive ratio index companies traditionally have seen. It's also much higher than the 1.7-to-1 ratio in the previous quarter and the 1.2-to-1 ratio at this time last year.
With economists expecting economic growth to slow at some point — either later this year or early next — investors have worried that the growing number of companies warning about their third-quarter earnings could be a sign that the slowdown is near.
On the other hand, companies simply could be playing the numbers game, hoping to lower analysts' current estimates for the quarter — thus making them easier to beat come October.
"There is an awful lot of managing Wall Street expectations that goes along with earnings these days," Tower said. "I don't think an economic slowdown is coming any time before the end of the year, so you may simply be seeing companies try to get away from unrealistic expectations."
As an example, look to Google Inc. (GOOG), the high-flying Internet search company that reported earnings late Thursday. The company nearly doubled its revenues and more than quadrupled its net income as compared to the second quarter of 2004. Its earnings of $1.36 per share handily beat Wall Street's $1.21 per share estimate.
But analysts said investors were disappointed that the stock didn't beat expectations by an even wider margin; the company's first quarter income was six times higher than the previous year, after all. Google dropped $12.73, or 4.1 percent, to $301.21 after closing at a record high the previous session.
But perhaps Google has learned something about managing expectations since its initial public offering last year. The company's chief financial officer warned that maintaining its torrid growth pace would be more difficult in the third quarter, and that as a result, earnings could be less than analysts — and investors — expect.