The Day Ahead: You Probably Aren't Ready for Earnings

 | Jan 08, 2013 | 8:00 AM EST
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While locked in my offsite office doing extensive reading on investing, I stumbled across this quote:

"A good rule is to check stock prices no more than once a month or once a year if you have the discipline."

As I rewrote those inspirational words of wisdom, I began to laugh. The quote is pure garbage, likely written by an individual sitting on a huge nest egg and before the invention of the iPod. Provided you that seek continual self-improvement, please do ignore outdated quotes such as the one above. Of course, trading in and out of positions doesn't have to be your wealth-building strategy, but at least realize the absurdity of ignoring that the market is open daily and that stocks, yes, go up and down in value.

At any rate, let's move on to earnings. Consistent with the beginning of any earnings season, we're seeing large themes -- or, as really boring analysts call them among their super-cool friends -- "buckets." Here are four buckets I see laying in the proverbial sandbox:

1. Earnings estimates for S&P 500 companies have been chopped. Expect dread.

2. China is in a fundamentally different place from where it was in early-to-mid-2012.

3. Europe is fundamentally not OK, but the market has been lulled into thinking it is.

4. Industrials, financials and semiconductors are the relative winners amid the allegedly dismal environment.

Unfortunately, excessive attention on the buckets could cost you bucks, because that would mean you're doing minimal analysis on the grains of sand contained therein.

No, I am not losing my mind. These are the grains of sand I have analyzed -- by reviewing Alcoa's (AA) third quarter and then applying them to the current themes in the market. Here are some key comments out of that quarter:

● "Strong pockets of growth and driving profitability"

● "European weakness" in mid- and downstream businesses

● A reduction in its 2012 aluminum demand forecast to 6% from 7% due to China issues

What the Bulls Will Need to Keep the Faith

● Management cited broadening strength in the business, which reflects a supposedly stable Europe (except Italy) and a recovering China.

● Sequential improvement in the tone around Europe

● An aluminum growth forecast somewhere in the vicinity of a 4%-to-6%, which captures the China recovery, a degree of confidence in Europe and executives believing the U.S. is not teed up for a Washington-triggered apocalypse

Between us, I think Alcoa will post a decent bottom-line number amid incrementally higher aluminum prices and a better overall global story compared with what we saw in the third quarter.

A Final Note

Chances are, you missed the quiet mentions on the S&P 500's relative-strength index (RSI), since everyone was chatting on Apple (AAPL), the debt ceiling and a Yum! Brands (YUM) earnings warning (which seems company-specific to me). In any case, RSI is now at 64.4 -- and a 70 reading marks the start of overbought territory, according to technical-analysis wizards. While I am not exactly a shape drawer (ascending triangle, anyone?), I do incorporate some degree of chart work in order to pinpoint entry prices.

Using the period from March 2012 to today as a guide, it appears a near-term consolidation of gains is rather probable if we rely solely on the RSI as a predictor. The trillion-dollar question: Does "consolidation" hand off to "mini-correction?" After all, we're headed in to an earnings season that should be poor in terms of fourth-quarter operating margins, but maybe not as dreadful when it comes to initial 2013 outlooks.


Take these historical numbers into consideration:

March 30, 2012: RSI broke through 60, then the S&P 500 went straight down until June 6 or so.

September 2012: RSI eclipsed 60 early in the month, thanks to the Fed announcement. The S&P 500 began stalling action until Sept. 17, and then gave it all back and then some until the November lows.

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volatility is quite low here, and we could see some downsides here in the short term. ...



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