Profit Decline Waves U.S. Economy Caution Flag: Chart of the Day

Falling corporate earnings pose a risk for the current U.S. economic expansion that deserves more attention from investors, according to Albert Edwards, a global strategist at Societe Generale SA.

The CHART OF THE DAY shows how Edwards drew his conclusion in a report yesterday. He tracked profit after adjustment for changes in inventory values and depreciation, an accounting charge that reduces the value of assets. The figures are compiled quarterly by the Commerce Department.

Adjusted pretax earnings fell 9.8 percent in the first quarter, according to data released last week. The drop was the steepest since the fourth quarter of 2008, when profit tumbled 26 percent in the midst of a recession and financial crisis.

The decline reflected the expiration of tax provisions allowing companies to take bigger depreciation charges, Edwards wrote. Even so, this barometer “can give a good indication of economic vulnerability and predict unexpected recessions,” the London-based strategist wrote.

First-quarter earnings after taxes fell 6.8 percent from a year earlier, as Edwards highlighted in a chart. The comparable figure for profit before inventory and depreciation adjustments rose 5.3 percent.

The latter number is “misleading investors as to the underlying strength of profits,” Edwards wrote. “The bottom line is that the U.S. profits margin cycle has begun to turn down at long last.”

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