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U.S. Earnings Gains Obscured by Retreat in Energy Profit

The unbroken streak of Standard & Poor’s 500 Index profit growth that spurred a three-year bull market would last another quarter if not for energy companies, whose profits are poised to slump the most since 2009.

Income at oil and gas producers will fall 24 percent in the three months ending in September, the largest decline in three years, according to more than 1,200 analyst estimates compiled by Bloomberg. Excluding the retreat, earnings in the benchmark gauge for U.S. stocks would climb 2.5 percent, the 12th straight increase, amid gains for banks and computer makers, data show.

Lower earnings from Apache Corp. (APA) to Occidental Petroleum Corp. (OXY) reflect the drop in oil and gas prices in May and don’t signal lasting weakness in U.S. profits after they doubled since 2009, according to BB&T Wealth Management’s Walter “Bucky” Hellwig. Bears say investors should heed the decline because energy (S5ENRS) suppliers are the fourth-biggest industry in the S&P 500 and their income reflects economic momentum.

“Over the past three years, companies have done well in growing earnings in a very challenging revenue environment,” Hellwig, who helps manage $17 billion at BB&T in Birmingham, Alabama, said in a Sept. 18 telephone interview. “For stocks as a whole, the earnings growth rate slowdown’s already been discounted. Companies will continue to generate favorable earnings and favorable earnings growth.”

Shares Drop

The S&P 500 fell 0.4 percent to 1,460.15 last week, the first drop since August, after European Union finance ministers failed to calm concern about the region’s debt crisis. Energy shares (SPXL1) lost 1.8 percent, the biggest drop after banks, as oil slumped 6.2 percent in New York, the most since June. The U.S. equity benchmark slipped 0.2 percent to 1,456.89 at 4 p.m. today.

The index has advanced 16 percent this year, extending the bull market rally since March 2009 to 116 percent. Better-than- estimated earnings, rising consumer confidence and home sales, and Federal Reserve stimulus in the form of record low interest rates and bond-buying programs have boosted stock prices.

Eleven straight quarters of income growth will help push U.S. earnings to $1.13 trillion in 2012, according to data on stocks with market values of at least $1 billion compiled by Bloomberg. That compares with $784 billion in 2007. Per-share profits climbed 15 percent in 2011 and 36 percent last year.

Profit Outlook

Even as earnings for the benchmark gauge fall 2 percent this quarter, financial firms are forecast to post an 18 percent increase, the most since 2010, and technology profits will rise 3.1 percent, estimates show. S&P 500 earnings may surpass $100 a share for the first time ever this year and growth will average 12 percent annually through 2014, according to analysts.

The 24 percent earnings slump for oil and gas companies, which account for 11 percent of the $13.2 trillion S&P 500 market value, would be the biggest decrease since they fell 24 percent in the fourth quarter of 2009, data compiled by Bloomberg show. Energy earnings fell 17 percent between April and June after dropping 3.8 percent in the first three months of 2012.

Crude slipped to $77.69 a barrel in June and gas is more than 70 percent below the high reached in 2008. The commodities slumped as supply increases outpaced consumption and new technology made it easier to find them. The International Monetary Fund forecasts the world economy will expand 3.5 percent this year, down from the 3.9 percent rate in 2011.

‘Slowed Down’

“Certainly, we’ve slowed down as the world has slowed down,” Bruce McCain, chief investment strategist at the private-banking unit of KeyCorp in Cleveland, said in a Sept. 18 phone interview. His firm oversees $20 billion. “Earnings growth does matter over the intermediate term. By and large, you need a stronger growth rate to be able to propel stocks dramatically higher.”

Weakening energy profits have coincided with economic slumps in the past. The industry posted five straight quarters of shrinking earnings from the end of 2008 through 2009 as U.S. GDP contracted. Profit fell in the last three months of 2006 before economic growth slowed to 0.5 percent the next quarter from 2.7 percent in the previous one.

Crude has surged 20 percent to $92.89 a barrel since reaching a nine-month low in June. Oil will reach $99.21 in 2013 and surpass $100 in 2014, according to the average of 29 economist projections compiled by Bloomberg. After a 0.3 percent increase in profits for the fourth quarter, energy producers will post an 8.8 percent profit gain in 2013 and 9.6 percent in 2014, according to analyst estimates compiled by Bloomberg.

Invest Now

“By the time oil companies report earnings, they’re talking about oil prices that were in the past,” Wasif Latif, vice president of equity investments at USAA Investments in San Antonio, which oversees $50 billion, said in an interview at Bloomberg in New York. “Do you want to be investing at where the price was then or now? I would argue it’s now. Based on the price now, the next quarter’s going to be pretty good.”

Apache, the third-largest U.S. independent oil and natural- gas producer by market value, cited a decline in energy prices when reporting a 36 percent drop in second-quarter income. Earnings at the Houston-based company are projected to contract 25 percent in the current period before climbing in 2013 and 2014, estimates show.

Oil Prices

Occidental Petroleum’s quarterly profit also fell because of lower oil prices. Earnings at the largest onshore crude producer in the continental U.S. slipped 26 percent last quarter and will drop another 25 percent for the three months ending this week. A rise in oil prices since June has led analysts to boost the third-quarter average projection by 5 cents to $1.63 since Aug. 7, and the company is forecast to increase earnings 10 percent next year, data compiled by Bloomberg show.

For industries that count energy prices in their expenses, the slowdown has meant lower costs and higher earnings. U.S. Airways Group Inc. exceeded analyst projections last quarter because it paid less for jet fuel and collected higher fares. Fuel, its largest cost, fell 4.4 percent.

The oil-price slump that began in May sent energy earnings falling and helped drag down the S&P 500 as investors speculated the world economy was slowing. China’s declining production and the euro zone’s drop in manufacturing fueled speculation the U.S. and world would fall into a recession.

Global Growth

Economists cut forecasts for world economic growth to 2.2 percent from 2.6 percent in June, data compiled by Bloomberg show. In the U.S., 2012 gross domestic product projections fell to 2.1 percent from 2.3 percent this year. They now predict 2012 American GDP will expand 2.2 percent as the housing market recovers and consumer confidence improves. Crude and natural gas rose 20 percent and 25 percent, respectively, from 2012 lows.

“You’re in the energy price sweet spot right here where companies can make money but it’s not enough to crimp global demand,” John Canally, an economist and investment strategist at LPL Financial Corp. in Boston, said in a Sept. 19 telephone interview. The firm oversees about $350 billion. “The overall global backdrop for stocks is better than it was a couple of weeks ago.”

Wall Street strategists estimate the index will surpass its all-time record of 1,565.15 next year, as earnings continue to rise, according to Bloomberg data. The highest is 1,615 from Citigroup Inc.’s Tobias Levkovich.

Stocks Valuation

The growth in earnings has kept the S&P 500’s valuation below the historical average. The index trades at 14.9 times reported profits and 14.1 times estimated earnings, 14 percent below the five-decade average, data compiled by Bloomberg show.

“When energy prices are going up and when commodity prices are going up, it’s usually a good thing for earnings and it’s a good thing for the market because it’s reflecting strong economic growth,” James McDonald, chief investment strategist at Northern Trust Corp. in Chicago, said in a Sept. 19 telephone interview. His firm manages $704.3 billion. “The earnings picture tends to be a lagging reflection of what’s going on in the global economy and so investors are relatively nervous about the pace of growth and I think that probably sets us up for some modest upside.”

To contact the reporters on this story: Whitney Kisling in New York at wkisling@bloomberg.net; Rita Nazareth in New York at rnazareth@bloomberg.net

To contact the editor responsible for this story: Lynn Thomasson at lthomasson@bloomberg.net

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