The Day Ahead: Don't Fear the Unknown

What? You thought this was to be another quantitative-easing rundown gleaned from combing four years of Helicopter Ben comments and random YouTube videos? Nah -- been there, done that (for most of August). At least for today, I want to expand upon a couple hints I dropped Monday regarding third-quarter earnings season. Sure, everywhere you turn there is talk of QE-associated tail risks, mouth risks, hoof risks and the like. But a very empty bucket is out in the open labeled "Corporate Fundamentals Now." There is this earnings recession that I have outlined recently, and the concept of leaky profit margins, but I want to tie it all together in order to maximize your preparedness.

The reality, as I see it, is that the market is headed for a series of judgment days during which investors -- both of the deep-pocketed variety and the retail Johnny-come-latelies -- will have to make a choice. They'll all have to decide whether significantly accommodative global monetary policy, plus China infrastructure spending, are valid enough arguments to further expand price-to-earnings multiples on decelerating earnings growth and fiscal-cliff threats (though, hello, there is no real demand in China to be quantified just yet). Then, investors will have to square their decisions with sell-side estimate modeling for a revival in profit growth by the fourth quarter -- the underpinning of fresh upward adjustments to strategists' year-end S&P 500 value targets.

On the eve of Texas Instruments' ( TXN) mid-quarter update, and a W.W. Grainger's ( GWW) preview later in the week, a battle must be brought to our attention -- the optimistic, for W.W. Grainger, vs. Texas Instruments, with sentiment that's probably-not-sufficiently-realistic. The problem is that optimism on W.W. Grainger could really provide a shock to the bulls should the company in fact warn. It could cause them to question that "all is fine and dandy" management approach, employed by others in Corporate America back in the second quarter.

On the other hand, if a Texas Instruments sounds incrementally more cautious on top of already tepid comments and guidance, that will obviously be no good, and it could trigger the bears to become more bearish and suck in some new members. In the end, we would have two additional early-inning third-quarter warnings -- ones that are congruent with what FedEx ( FDX) and Intel ( INTC) shared -- just as we move beyond easing monetary-policy events.

Moreover, for any analyst cognizant that life exists outside of a 10-company coverage universe, third-quarter and full-year estimates would likely be reined in. Near-term, this could preliminarily pressure stocks and spur doubts as to whether the market will respond positively to the usual game -- beating lowered estimates -- in late October and early November.

As for yours truly, I have redoubled efforts to read earnings-call transcripts as reminders of which names were overly optimistic on 2012, and in order to scrutinize their characterization of demand trends following the final month of the second quarter. Key buzzwords on which I am zeroing in are backlog trends, inventory destocking trends and new orders trends. I ultimately don't want your portfolio or psyche to fall susceptible to these judgment days, so do the work in the here and now. In that way, you'll be able to smile at the looming dark clouds while others are fretting.

Optimistic Company: W.W. Grainger

Key Attributes

  • Raised the bottom end of its fiscal year earnings guidance, and left top end unchanged.
  • Conveniently overlooked any relevant comments on Europe in its 8-K and 10-Q SEC forms -- positive spin.
  • Supported claims by pointing out double-digit percentage sales gains by month. However, the final month of the quarter was June, before a coordinated global economic slowdown ensued, especially in manufacturing. (This is an important sector for company, and has been an earnings driver.)
  • Sales in the second half have been planned up 10% to 13%, with flat sequential gross margins. In English: Good luck with these targets, given global macro trends.
  • Soz Says: Head for the hills. This is not worth losing sleep over the next three days.

Seemingly Realistic Company: Texas Instruments

Key Attributes

  • Orders slowed in June.
  • Backlog coverage for September was lower than normal.
  • Quarter-over-quarter revenue variance was worse vs. typical seasonality.
  • Investment in research and development pared back a bit for the full year.
  • Soz Says: Stock price is supported by QE expectations, but fundamentals don't support the valuation.

Day of Remembrance

For an investor, every day that passes offers an opportunity to take in more facts and figures and then figure out how to score a couple bucks. What does it all really mean, though, if the joys and spoils can't be shared with loved ones? Not a heck of a lot. Keep that in mind today and forever. My thoughts and prayers are with the nation and those families directly impacted by the tragic events of Sept. 11, 2001.
At the time of publication, Sozzi had no positions in the stocks mentioned, although positions may change at any time.

Brian Sozzi is Chief Equities Analyst for NBG Productions. In this capacity, he is responsible for developing independent financial content and actionable stock recommendations (including ratings and price targets) for an institutional and retail investor base. In addition, Sozzi is the Editor in Chief of the "Decoding Wall St." investor education online platform.