US Second Quarter Earnings Season Sparks Rally in Global Risk Assets
Even before the big name announcements, global stock markets began rallying hard Monday July 13th based on a New York Times article that predicted US investment banking giant Goldman Sacks (GS) would beat expectations.
The fortunes of the major US financial institutions have been at the root of every major stock market move over the past two years. The current economic crisis began with their subprime lending woes, and worsened with the collapse of Bear Stearns and Lehman Brothers. Stocks began their first serious rally with first quarter earnings reports in early March, when the major banks showed profits, albeit of questionable legitimacy and less likelihood of repeating.
Thus the mere rumor that GS, and by extension the other major banks, could be healing was enough to ignite another rally. Most other earnings reports followed with similar good news, especially those from the leading firms in various sectors.
The Rally's Basis? Bad Results Beating Worse Estimates = Good Times Ahead
However, the picture was far less rosy. Yes, most firms beat estimates, but most of these did so with declining revenues and/or earnings that managed to exceed even grimmer analyst expectations. Not one of the banks beat estimates based on steady ongoing operations. Goldman Sachs did it with high risk trading that by nature cannot be depended on to produce steady results. The others did it via one-time gains on asset sales. Citibank (C) would have shown a loss had it not sold its Smith Barney operation to Morgan Stanley (MS). All acknowledged rising "credit risk, " meaning that the value of their loan portfolios was likely to drop. Most showed losses from every aspect of their ongoing operations.
Outside of banking, there was also a large majority of firms exceeding analyst estimates, but again, mostly with bad results beating even lower expectations.
In sum, stocks rose, yet revenues and actual earnings from ongoing operations are mostly in a down trend. Because the downtrend was less steep than expected, the markets took that to mean bottoming and growth were on the way.
Commodity and forex markets followed stocks higher, though to varying degrees. Like stocks, the highest yielding and commodity based currencies hit or approached former highs against various crosses. However, crude and gold rose less.
