Earnings, Bond Yields, and the Economy

I have returned from vacation in Omaha, it was a wonderful trip and it was great reconnecting with family and friends. I did finish the 5 mile long Bear Run to the top of Grandfather Mountain on Thursday night July 8th at the time of 1:00:52, the altitude was hard for this old flat-lander. Earning season has started so this newsletter will discusss corporate earnings, bond yields, and what it tells us about the economy. First will be a weekly recap from Vanguard.

Vanguard Weekly Recap: Signs point to a very gradual recovery
The Federal Open Market Committee (FOMC) released the minutes from its June meeting this week, which stated that many committee members have downgraded their expectations on economic growth and believe that inflation remains a distant threat. Other economic reports released this week are strong indicators that the FOMC's thoughts are right on target. For the week ending July 16, the S&P 500 Index fell 1.2% to 1,064.88 (for a year-to-date total return—including price change plus dividends—of about -3.5%). The yield of the 10-year U.S. Treasury note fell 11 basis points to 2.96% (for a year-to-date decrease of 89 basis points).

Corporate Earnings
After the first week of corporate earnings reporting, revenue have increased 9% while earnings have increased by 28% during the recent quarter. It was projected that revenues would increase 8% and earnings would increase about 28% so it is in-line to slightly better than anticipated. With this good news the stock market ralied during the week and theb crumbled on Friday after Bank of America and Citigroup reported results. Corporate earnings are having a V shape recovery a positive indicator.

I read the Bank of America earnings summary and did not find the reason for the 9% decline except that executives are not very happy with the new Financial Regulation bill. On the positive side, earnings were above anticipated and amount of reserve to cover bad loans and credit issues went from about $13 billion to about $9 Billion. On the negative side, revenue growth for the future was below expectation partly because this new legislative bill was going to impact revenue from derivatives. As one analyst put it, the strong buy recommendation was maintained but the 12 month price target was reduced from $26 to $22/share.

Derivates will the topic of next week's newsletter.

Bond Yields
The treasury yield curve maintains its shape with short term rates very low and long term rates at levels last seen in the 1960's. This is a normal shape for an economy that is flat to growing. The long term rates have been dropping suggesting that growth is not as strong as expected.

The Economy
Corporate earnings and bond yields suggests that the economy is firmly entrenched in the consolidated stage. In an average business cycle the economy would be growing more at this point. This means that this business cycle will be longer than average. It does not suggest a double dip anything, if you want a double dip, get an ice cream cone.

Another way to measure the economy on a macro level is to track income tax receipts. The Federal Income Tax Receipt was about $2.1 Trillion in May and now is $2.2 Trillion as shown at the website USDebtClock.org. This is another example of a recovering but not growing economy as this value was about $3 Trillion before the latest recession.

What Does This Mean For An Investor
First, this means that this is a great buying opportunity for a long term investor and keep buying on a regular basis. Second, it means that interest rates are going nowhere anytime soon keeping mortgage rates and savings account rate low. Third, it means that stocks are in a trading range for now between the recent high and low and a trading strategy should be considered. Fourth, the Wall Street spin machines will be working to keep investors buying and selling to keep trading volumes, and future bonuses, high.