Profit rebound unlikely as warnings increase

NEW YORK (Reuters) - With about half the second-quarter U.S. corporate earnings reporting season over, a recovery in profits in the second half of the year is looking increasingly unlikely.

Overall, earnings have come in 2.7 percent below Wall Street's already low estimates, but more important for investors is that a number of companies' forecasts for the third quarter are looking anything but rosy.

While analysts are still expecting an 10.5 percent increase in earnings for companies in the benchmark S&P 500 index in the third quarter, according to Thomson Reuters proprietary research, that view has been revised down as more companies have given disappointing outlooks.

On July 1, the third quarter estimate was for 12.6 percent growth, while on April 1 it was 17.3 percent, the research showed.

"We still expect earnings to be down again this next quarter. A lot of companies are talking about higher costs of energy and that will serve to bring down their margins," said Paul Nolte, director of investments at Hinsdale Associates, in Hinsdale Illinois. "That will provide a double whammy for earnings, with top line slowing and margins contracting a little bit."

This year's operating margins are likely to be below their respective 10-year averages for a majority of sectors, according to a Merrill Lynch research report.

The price of oil, while off the $147 peak it hit at the beginning of the month is still about double what it was a year ago and far above the comfort level for many companies.

Package delivery company FedEx Corp (FDX.N), for example, forecast a weak fiscal 2009 blaming the impact of high fuel prices on demand for its services. Meanwhile credit card company American Express (AXP.N) shocked investors when it said that it was no longer on track to boost earnings per share by 4.0 percent to 6.0 percent this year, because the U.S. economy has slowed. American Express, whose customers tend to be wealthier than most, said even its best clients were spending less and were taking longer to pay bills.

"I'm really waiting until 2009 for an earnings recovery and a lot of that will be predicated on what happens in housing," said Hinsdale's Nolte.

Without the financial sector, the second quarter 2008 growth rate for the remaining nine S&P 500 sectors would be about 7.7 percent, according to Thomson Reuters data. With financials it is negative 17.9 percent.

If at the end of the second-quarter, the growth rate is negative 17.5 percent or worse, not only would S&P 500 companies have recorded four consecutive quarters of negative earnings growth, it would also mean that the first quarter was not the earnings trough that many had anticipated.

Nevertheless, Bob Doll, global chief investment officer of equities at money manager BlackRock Inc said in a report to clients on Monday that the second quarter earnings season is doing reasonably well and notes that third quarter profits are still expected to rise.

"We continue to believe that fears of an imminent collapse in corporate profits have been overdone," Doll wrote.

Financial sector earnings are still likely to be down in the third quarter, Doll said, but he added that non-financial companies' earnings could be up nearly 20 percent.

Even with some stronger-than-expected earnings from big banks like JPMorgan Chase (JPM.N), Citigroup (C.N) and Wells Fargo (WFC.N), overall companies in the financial sector have missed estimates by the widest margin in the second quarter.

Of the earnings' outlooks reported overall so far in 2008, 42 percent have fallen short of Wall Street's estimates, with only 19 percent exceeding them, according to Merrill Lynch analyst Brian Belski.

But estimates may be overly gloomy for the third quarter, said Al Goldman, chief market strategist at Wachovia Securities. Even so, he does not see a sharp second half recovery in earnings.

"Third quarter earnings are not going to be great but they're not going to be horrible," Goldman said.

The consumer discretionary, financials, and energy sectors, are the top three sectors giving negative forecasts in 2008, according to Merrill's data.

Yet there are some brightspots: in spite of some big disappointments, including iPod maker Apple Inc's (AAPL.O) outlook, companies in the technology sector have so far been the strongest sector in terms of their forecasts topping analysts' estimates.

Ned Riley, chief executive of Riley Asset Management said he believes the outlooks have been purposely reserved so as to make it easier for companies to positively surprise.

Riley sees a slow growth scenario for earnings. "We're not in a major recession that sees violent earnings problems."

However, he added that regional banks will likely continue to struggle for the remainder of the year and global earnings look set to slow.

"You're going to see Europe slowing further and the emerging markets will catch the cold," Riley said.