Jubak's Journal
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Why Wall Street is happy and Main Street isn't
Fretting over the employment picture, consumers are growing more pessimistic. But the markets are still betting on a second-half recovery, even if it doesn't arrive until 2004.
By Jim Jubak
The drop in consumer confidence in the July survey from the Conference Board caught everyone by surprise. The number, which is supposed to predict consumer behavior, had surged off its March bottom as the official war in Iraq came to an end.
After hitting a nine-year low at 61 in March, the April confidence number soared to 81 and then climbed to 84 for May and June. The consensus was that July would show a further gain to 85.
Thats why the drop to 77 was such a shock. Despite the end of the war, more money in paychecks from a tax cut and a rallying stock market, consumers were less optimistic in July than they were in three months ago. Not only were consumers more pessimistic about the current economy, but also their expectations for the future took a big turn for the worse. Expectations for the future dropped to 86 in July from 96 in June, a 10% shift toward the dark side.
Wall Street analysts, however, have moved in exactly the opposite direction. Their expectations have become increasingly optimistic. Since the beginning of the second quarter, Wall Street analysts have increased their estimates for third-quarter earnings growth to 13.6% from 13.1% and for the fourth quarter to 21.6% from 21.3%, according to Thomson First Call.
That doesnt seem like much until you remember that Wall Street analysts historically cut their earnings estimates as the quarter approaches and reality catches up with earlier optimism. This year, strikingly, their optimism is growing as the year's second half approaches.
Different directions
So why such different reads on the future from consumers on Main Street and analysts on Wall Street?
The conventional explanation is that consumers are pessimistic because their emotions are so heavily influenced by the continued high level of unemployment. If youre worried about keeping your job, and many people are these days, then youre likely to be pessimistic about the future.
Wall Street tends to dismiss the jobs worry. Unemployment is a lagging indicator. The number of unemployed actually keeps rising for a while even as the economy recovers because an improving economy draws workers who had given up looking for a job back into the hunt. Since companies are reluctant to hire new workers until theyre convinced a real recovery is under way, the number of people employed doesnt rise during the early stages of a recovery either.
But that explanation sells consumers short. Looking around, consumers can see that companies are still in the last stages of announced cost-cutting and the next six months will bring additional layoffs.
Wall Street analysts have their own data problem. Theres nothing in second-quarter results or company guidance for the third quarter that shows the long-anticipated second-half recovery will arrive on schedule.
Of course, part of their continued optimism may be the result of the approach of 2004. Analysts know that if their projections are wrong for this year's second half, soon theyll be able to roll them ahead into new estimates for 2004. Wait till next year has a long tradition on Wall Street.
The troubling top line
The second-quarter reports so far show almost no revenue growth; the bulk of the earnings gains are a result of cost-cutting.
For example, look at the technology sector. Earnings per share gains of 21% in the second quarter have come on revenue gains of just 4%. Take out the inflation of revenue thanks to a weaker dollar and revenue gains in the quarter are in the neighborhood of 2%.
In their second-quarter guidance, companies havent said anything that adds up to the kind of top-line growth youd expect from a second-half recovery. Comments have ranged from theres no sign of improvement to just seasonal gains to gaining market share but no industry pickup.
A third of the way through the third quarter, the recovery remains hard to identify. So investors looking for guidance on the market have their choice of consumers, who may be too backward-looking, and analysts, who may be too forward-looking. One side or the other will be wrong. Investors just dont know which yet.
Editor's Note: A new Jubaks Journal is posted every Tuesday, Wednesday and Friday. The Wednesday edition stems from Jim's appearance on CNBCs Business Center most Wednesday nights at approximately 5:45 p.m. ET.
At the time of publication, Jim Jubak did not own or control shares in any of the equities mentioned in this column. He does not own short positions in any stock mentioned in this column.
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