With the second-quarter earnings season nearly over, it appears that overall corporate profits are expected to rise 10 percent to 12 percent this quarter, a slight decline from the lofty growth rates of the past two years.
But a number of L.A.-based companies have found sweeter spots in the economy like homebuilder KB Home, which reported a 78 percent jump in second quarter profits, and Occidental Petroleum Corp., where quarterly profits doubled, thanks to high oil prices.
Even some old-line companies are posting zippy returns. Pasadena-based label maker Avery Dennison Corp. recorded a 31 percent jump in second-quarter profits.
“We’re going to finish with double-digit growth for the eighth consecutive quarter, so you can’t really call that weak,” said John Butters, senior research analyst at data provider Thomson Financial, in assessing the overall market.
Based on second-quarter results, Wall Street analysts have been raising their earnings estimates for the third and fourth quarters.
Corporate profits are expected to jump 15.8 percent in the third quarter, and 13.2 percent in the fourth quarter, according to Thomson. A slowdown is likely in the first quarter of 2006, when earnings growth is expected to slow to 9.4 percent.
Jim Lyon, director of equity investments at Oakwood Capital Management LLC, with $450 million under management, has recently stocked up on several Los Angeles-based companies, including Spanish-language television and radio broadcaster Univision Communications Inc. and dialysis services provider DaVita Inc. He’s also bought shares of Rupert Murdoch’s News Corp., which is acquiring Los Angeles-based Intermix Media Inc. Oakwood also has sold off a large number of energy stocks after being over-weighted in the sector for several years.
“Trying to handicap energy prices is always a tough game and we felt it was a good time to harvest some profits,” Lyon said. “There are an awful lot of stocks out there that seem to be fully valued so we’re being very careful and cautious.”
One positive sign for investors is that companies are returning cash to shareholders through dividends and stock buybacks. “Capital spending clearly is taking place and the growth has probably been somewhat modest over the course of the last year, simply because corporate managers are being more disciplined about the business opportunities they’re pursuing,” Lyon said.
Lagging sectors
While earnings growth seems secure, it hasn’t translated into across-the-board gains in share price.
Peter Eichler, chairman and chief executive of Santa Monica-based investment adviser Aletheia Research and Management Inc., said earnings gains aren’t reflected in the overall market, and that entertainment and biotech sectors in particular are underpriced.
“Earnings have grown enough that they have made a lot of stocks look pretty cheap relative to those earnings, and that has pushed stocks higher,” Eichler said. “The future outlook is absolutely fabulous, except for oil.”
Several negatives on the horizon could squeeze profit growth: a hawkish Federal Reserve, higher energy prices, a firm dollar and the possibility of more terrorist attacks like those in London.
David Adishian, first vice president and wealth management advisor at Merrill Lynch in Los Angeles, described what many economists say is the financial markets’ “unusual state of stable disequilibrium,” that has been propped up mainly by low interest rates.
The problem is that the U.S. is relying on Chinese and Japanese central banks to finance the current trade deficit. Another big concern is that a housing bubble or mortgage bubble will burst in the near future.
Countrywide Financial Corp., one of the nation’s biggest home lenders, reported last week that its second-quarter profit fell 28 percent, primarily because it chose to keep more loans on its books to smooth future earnings rather than sell them into the secondary market.
Economists and Federal Reserve officials have been warning Southern California bankers and mortgage lenders about lax underwriting standards. A host of new loan products have called into question the strength of borrowers’ credit and collateral. In addition, many banks and mortgage lenders do not fully disclose how much of their portfolio is devoted to higher-risk mortgage products.
