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By any historical measure, the second-quarter earnings season and the outlook for profit growth in the second half of the year is remarkable.

Despite some high-profile misses from the likes of


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, about 70% of

S&P 500

companies have so far surpassed analysts' estimates, and earnings are on track to grow more than 20% for a fourth consecutive quarter. A string of gains like this has only been seen four times over the past 50 years, according to Thomson First Call.

"Everyone's trying to do a story these days about how earnings are weak," said Gint Rimas, a senior analyst at Thomson. "I don't know if that's the case."

Companies in the S&P 500 are beating analysts' expectations by 4 percentage points, Rimas said, which is about a percentage point above the average surprise factor. In addition, estimates for the third quarter have actually been revised up overall. Typically, analysts have to lower their overly optimistic estimates around this time.

Judging by the action in the stock market lately -- the


is sitting at its lowest level of the year and the


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is below 10,000 for the first time in two months -- you'd think earnings were about to fall off a cliff. In fact, this year's expected earnings growth of almost 15% in the third quarter and 15.6% in the fourth would be well above normal.

Still, it's hard to argue that investors are acting irrationally.

Expectations for the second quarter had been extremely high and while the news has been very good, it hasn't been quite as good as it was in the first quarter when companies were beating estimates by almost 8 percentage points.

General Motors

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is a good example of a company that breezed past the consensus estimates in the second quarter but still managed to disappoint. Although the automaker's earnings were 12 cents a share better than analysts' had expected, that was nowhere near the 47-cent upside surprise reported in the first quarter. What's more, GM chose not to raise its annual guidance, as it had done in the first three months of the year.



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also smashed through the estimates in the second quarter and actually raised estimates by a whopping 15 cents for the full year, but it still managed to miss analysts' lofty estimates.

It would be nice if investors could stand back and appreciate that earnings for all four quarters of 2004 will be strong on a historical basis. But that's not how things work. Wall Street is focusing on the deterioration of profit growth. The days of 20%-or-more year-over-year earnings growth are over, and investors are in mourning.

The deceleration in earnings growth in the back half of the year is partly a result of tougher comparisons. Since earnings rose 21.3% in the third quarter of last year and 28.5% in the fourth quarter, companies will find it harder to post strong growth later this year. High oil prices and rising interest rates also will serve to crimp corporate profit margins.

Then there's the impact of currency. In the first half of the year, the weakness in the dollar gave a nice boost to earnings but the benefit is likely to be more muted going forward.

"I expect our currency benefit will be substantially less in the second half of the year than in the first half of the year," said


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CFO recently.

A slide in the U.S. dollar and other currency fluctuations added 6% to Coke's income in the most recent quarter. Amazon also received a boost from the weak dollar on the order of 2 cents a share. A weak dollar can improve currency translations and can boost demand for U.S. goods overseas.

Although third-quarter estimates have been nudged higher since the start of July, the pace of upward revisions seems to be slowing. Meanwhile, estimates for the fourth quarter and for 2005 have been revised down a touch over the past few weeks, fueling concerns that the outlook is getting worse. The potential expensing of stock options next year adds another layer of uncertainty.

Analysts are now calling for 15.6% growth in the final three months of the year, down from 15.7% on July 1. For next year, analysts are looking for 10.2% earnings growth, down from the 10.6% estimate at the start of the month. This year, earnings are slated to rise 18.7% compared to 18.4% growth in 2003.

While most industries will see a slowdown in year-over-year profit growth going forward, some sectors have seen big upward earnings revisions recently, and they could outperform the market as a result.

The energy sector, for example, is expected to post earnings growth of 21% in the third quarter, up from the negative 7% growth expected on April 1. Estimates for the fourth quarter have also been revised up, as analysts have started to accept the possibility that oil prices will remain high for some time to come.

The materials sector has seen some equally impressive revision activity, with analysts raising estimates for both the third and fourth quarters. Telecommunications stocks, on the other hand, have seen big downward revisions for the second half and technology estimates have started to fall for the fourth quarter.

"The market environment could prove challenging over the next several months, especially as earnings revisions momentum decelerates meaningfully while interest rates accelerate," said Smith Barney analyst Tobias Levkovich.

With about half the S&P 500 companies having reported earnings so far, second-quarter results are up 24.3% so far, according to First Call. Since the start of July, the S&P is down 5% while the Dow is down 4.4% and the Nasdaq is off almost 10%.