Thursday, August 13, 2009

Analyst Expectations and Reality

Recently the mainstream media has been full of supposedly good news for the economy. If you've been following the news lately, you probably know what I'm talking about ... it seems like every week we hear of more corporations that are managing to beat analyst expectations in regards to quarterly earnings or profits.

Not familiar with what I'm talking about? A quick Google search of recently published news stories returns the following ... an article from MarketWatch reporting that Applied Materials Inc. beat analyst expectations for quarterly earnings and sales ... an article from the Wall Street Journal reporting that Anheuser-Busch InBev beat analyst expectations for second quarter earnings ... an article from the Epoch Times reporting that Macy's also beat analyst expectations for second quarter earnings ... etc. These examples are just to give you a taste of what I'm talking about. They are all from the past several days. Look for yourself and you'll find many, many more.

It's pretty clear that the media has put a huge spotlight on analyst expectations. I'd like to put my own spotlight on this trend.

The first question I'd like to ask is: why is the media focusing so hard on analyst expectations? There are various reasons that I suspect.

1. A lot of people are very thirsty for any kind of positive economic news. If you read any of these articles you'll see that conditions for most of these corporations are pretty dreary. Most are actually seeing declining sales and earnings. About the only positive thing to report is that they beat analyst expectations.

2. Many of these media organizations are clearly suffering in this downturn as well. A recovery would greatly benefit them. So its in their interest to promote as much positive economic news as possible, possibly in an effort to shift public opinion and promote more economic confidence (regardless of whether it is warranted or not).

3. Many of these media organizations want to paint a positive picture regarding the financial situation of these corporations because they have ties to them. For example, remember the story about Macy's I linked to up top? The retail sector is one of the biggest advertisers in just about every form of media.

4. Its the predominant thinking on Wall Street and these media groups don't want to rock the boat. Call it inertia, if you will.

The second queston I'm asking is: why do we care that a company beat analyst expectations?

What a lot of these news stories are essentially saying is: this company is taking a complete nosedive in every respect BUT it beat the estimates set by a third-party.

What is left out of this type of reporting is:

Who are these analysts? What firms do they work for? What ties do they and their firms have to these corporations? to Wall Street institutions in general?

What were their expectations based on in the first place? What changed for this company that made it beat expectations? Does beating expectations mean that the company's financial situation is actually bettering or was the analyst merely far off the mark?

None of these questions are ever really asked because the point isn't to give you an accurate picture of the health of a company. The point is to offer you a quick soundbite that sounds positive and upbeat and restores confidence. At least thats how I see it right now.

I also want to say that I'm not insinuating that there is any kind of collusion between analysts and corporations. However, I encourage you to remember the role credit-rating agencies played in overestimating the value and security of subprime mortgage-based securities. If you aren't familiar with what I'm talking about, I strongly encourage you to look into it. On top of that, we all know that corporations have tons of way of creatively fudging their books. With that in mind, how can any responsible financial journalist *not* be asking these questions? How can we be sure that these analyst expectations actually represent valuable standards by which to judge the health of a company or of the economy as a whole? Yet, I don't see any of these questions being asked in the mainstream media. I do, however, see the mainstream media using these supposedly positive reports as a basis on which to begin promoting stocks as a great investment again.

The moral of the story? Look deeper. Think critically. Ask the right questions. Don't believe the hype.

Hopefully we will start seeing some better reporting soon, but I'm not holding my breath ...

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