U.S. government shutdown, debt impasse stalk earnings season

Thu Oct 10, 2013 3:02pm EDT

By Caroline Valetkevitch
    NEW YORK, Oct 10 (Reuters) - "Government shutdown" and "debt
ceiling" will top the list of  phrases that investors will track
in the coming weeks as they listen to corporate chief executives
and try to gauge the impact of Washington gridlock on U.S.
company earnings.
    Companies began reporting their quarterly results this week
amid mounting worries about the partial federal government
shutdown that began Oct. 1 and the possibility that the United
States could default on its debt. Investors see both as threats
to already modest levels of consumer spending and economic
growth.
    Profit and revenue growth are slowing, too, raising concerns
about equity valuations. Stocks are less than 3 percent off
their record highs even after drifting lower since the fiscal
stalemate between Republicans and President Barack Obama's
Democrats began earlier this month.
    The benchmark Standard & Poor's 500 Index surged more
than 1.5 percent on Thursday after Republicans in the House of
Representatives unveiled a plan that would avert a debt default.
     The Treasury Department says it would be
unable to pay all of its bills if Congress does not raise the
$16.7 trillion debt ceiling by Oct. 17.
    "It's hard to quantify at this point, but there will
definitely be a negative impact" on the economy and earnings,
said Natalie Trunow, chief investment officer of equities at
Calvert Investment Management, which has about $13 billion in
assets.
    "Some capex might be delayed and some hiring might be
delayed until the political situation resolves itself."
    Some damage has already been done, and companies operating
in the defense and health care sectors have borne the brunt
because of their higher exposure to government contracts. A
Goldman Sachs note listed companies that derive at least 20
percent of sales from the government, many of them in the
defense and health care sectors.
    Lockheed Martin Corp, among the biggest weapons
systems vendors to the U.S. Department of Defense, has said it
would furlough about 2,400 employees who work at government
facilities idled by the shutdown. Its stock has dropped as much
as 4.3 percent since the shutdown began before paring some
losses on Thursday.
    United Technologies Corp last week said it would
furlough as many as 4,000 employees if the shutdown dragged into
a second week. On Monday, however, the Defense Department
recalled most civilian employees. United Tech shares have also
fallen more than 4 percent during the shutdown before paring
losses on Thursday. 
    Managed-care providers Humana Inc and Health Net Inc
 have said they face delayed payments on contracts to
provide healthcare services to military families. 
    Even companies not directly affected through contracts are
concerned about the budget impasse, including Starbucks Corp
. The company's CEO, Howard Schultz, this week urged
business leaders to push for an end to the stalemate.
 
    A top concern of investors is that companies will announce
reductions in profit estimates for the fourth quarter, and that
cautious forecasts by companies will further dampen the rally in
stocks this year.
    The S&P 500 had lost 1.5 percent since the shutdown began, 
although Thursday's surge on signs of a possible compromise
effectively erased all of that loss. The index remains up 18.1
percent since the start of the year. 
    "Earnings uncertainty is a reason to be cautious in the near
term," said Leo Grohowski, chief investment officer at BNY
Mellon Wealth Management in New York. "We're going to be
watching very closely the companies that come out with
guidance."
    
    
      
    So far, there has been a minimal impact on earnings
expectations. Fourth-quarter S&P 500 profits are seen rising
10.8 percent from a year earlier, compared with an Oct. 1
forecast for 10.9 percent growth, Thomson Reuters data showed.
    By comparison, companies are expected to post third-quarter
earnings gain of just 4.2 percent.
    Still, many investors consider those fourth-quarter
estimates, and for estimates for 2014, to be overly optimistic
given U.S. economic growth hasn't picked up. The Federal Reserve
in September cut its forecast for 2013 economic growth to a 2.0
percent to 2.3 percent range, and lowered its forecast for 2014.
    Profit growth has averaged 4.1 percent over the past four
quarters, while revenue growth has averaged just 1.3 percent.
    Earnings for 2014 are expected to rise 11.4 percent, above
the 5.8 percent expected for 2013, Thomson Reuters data showed.
    Investors have closely watched changes in those numbers as
valuations have risen. The current forward 12-month
price-to-earnings ratio at 13.9, still considered a bit low
historically, is above the 13.1 at the beginning of 2013.  
    "Until we start seeing a pickup in GDP growth, we don't
think revenue targets will be met, even if those targets are
reduced," said Michael Mullaney, chief investment officer at
Fiduciary Trust Co in Boston.
    A shutdown that lasts for two weeks could subtract a half of
a percentage point from fourth-quarter gross domestic product
growth, according to a note from Bank of America Merrill Lynch
analysts, who estimate that lost government sales would equate
to 0.2 percent of total annual sales.
    While that is not a huge amount, the uncertainty generated
by the shutdown could also sap consumer confidence.
    "If it starts to detract from overall consumer confidence,
then you could see it impacting overall consumption," said Dan
Suzuki, equity strategist at Bank of America Merrill Lynch in
New York.
    "It's a risk for the more consumer-driven areas of the
market, an area that we're already somewhat cautious on."