First Call's Hill: First-Quarter Reports Likely Strong

Estimates point to the first quarter since 1997 in which S&P earnings growth will beat the long-term trend, First Call's research director says.
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The outlook for earnings has brightened considerably in the past few months. The fourth-quarter 1998 earnings for the

S&P 500

came in more than the typical amount above expectations, and year-over-year growth for the quarter jumped to 6%.

A good part of the jump from a year-over-year decline of 3.1% in the third quarter was due to some one-time factors that were included in earnings from continuing operations. But it was an encouraging sign that has since been followed up with several other favorable developments.

Most important of the recent developments is that the pace of downward earnings-estimate revisions has slowed noticeably. During the fourth quarter, expectations for first-quarter-1999 growth dropped from 14.3% to 9.3% by Jan. 1, but only fell to 6% since then.

Further, the number of negative preannouncements has dropped considerably from the levels of the second, third and fourth quarters of last year. At present, the number for the first quarter is 300, which will rise somewhat in the next few weeks but will remain far short of the 554 in the fourth quarter or even the 493 of last year's second quarter, although above the 275 for the first quarter of 1998.

Given that the current estimate for first-quarter S&P 500 earnings growth is at 6%, the final results are likely to be 8% or 9%. It will surely be the first quarter since 1997's fourth quarter, when the impact of the Asian crisis first began to be felt, to exceed the S&P's long-term average earnings growth for the S&P 500 of 7%.

As was true in the fourth quarter, technology, along with communications services and consumer cyclicals to a lesser extent, is the sector exhibiting the strongest earnings growth, while energy, along with basic materials and transports to a lesser extent, is the sector exhibiting the weakest earnings growth.

Technology is expected to be up 33% in the first quarter and an even greater 45% in the second quarter, as the sector rebounds from the inventory corrections in personal computers in early 1998. The only worry going forward is that after some months of rising estimates for technology companies that continued through the fourth-quarter reporting period in January, estimates have seen some trimming. However, except for



(which warned of lower-than-expected earnings

late Friday), estimates for the major technology companies have been unchanged since Feb. 1.

The communications services sector, led by the turnaround in long-distance earnings, is expected to be up 24% in the first quarter, and the consumer cyclicals, fueled by continued strong U.S. consumer spending, are expected to be up 15%. Energy is expected to be down 51%; basic materials (the papers, metals and chemicals) are expected to be down 28%; and transports are seen slipping 15%. Estimates for all three sectors were continuously reduced during the first quarter. But if the oil producers that have announced production cutbacks adhere to them, oil company earnings estimates, as well as price estimates, could go up significantly.

Meanwhile, valuations remain quite high, with the price/earnings ratio on calendar future-four-quarter earnings at 26. That is well above the peak of 18.5 at the end of the first quarter of 1991, which was the highest level at the end of any quarter since at least 1967, and probably since at least the end of World War II.

Charles L. Hill is director of research at First Call, a Thomson Financial unit that tracks earnings estimates and reports