Cliche Holds True on Blue Chips: ‘Big Is Beautiful’
The best excuse for Tuesday’s explosive rally in blue-chip stocks really was the best excuse: First-quarter earnings gains for some of America’s biggest companies have, in many cases, been far better than expected.
And while there is heated debate over whether the first-quarter’s numbers will be the last great profit results of this long economic expansion--well, we’ve heard that one before.
Remember the worries about the strong U.S. dollar crimping earnings of multinational companies? The dollar has taken a toll on some, to be sure. Even so, McDonald’s--which derives more than half its sales from overseas stores--managed to record a 17% first-quarter earnings gain.
Another global giant, drug leader Merck, boosted earnings 20%. And 3M Co., which also sells worldwide, on Tuesday reported quarterly results up a tidy 14%.
Solid profit numbers have been the rule rather than the exception in recent weeks from major U.S. companies. And the surprise has been just how solid those numbers have been.
Earnings-tracker IBES International Inc. in New York calculates that first-quarter earnings of major U.S. companies are up 16.5% from a year earlier, on average, for those reporting so far (earnings season is only about halfway finished).
That figure is about 3.5 percentage points better than what Wall Street analysts expected, IBES says. Moreover, 16.5% growth is much stronger than earnings have been in recent quarters, even for blue-chip companies.
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That acceleration had not been in the script for this year. Many analysts have been predicting a deceleration of earnings growth, for a host of reasons: They expected economic growth to slow; they figured companies had reaped the last of the big benefits from recent restructurings; they assumed the strong dollar would be a hindrance, devaluing foreign-derived sales and earnings when repatriated home; and they figured the tight U.S. job market would boost labor costs.
So for big-name companies to report the kind of numbers we’re seeing represents “a hell of an acceleration in earnings for this late in the economic cycle,” says Chuck Hill, earnings analyst at First Call in Boston.
Now, contrast the blue-chip companies’ experience with the first-quarter earnings that have been reported by many smaller companies so far. IBES calculates that smaller companies’ first-quarter results are up just 7% from a year earlier, so far. And even at that rate, they are barely exceeding analysts’ expectations.
No wonder, then, that blue-chip stocks have come roaring back over the past week or so, while smaller stocks, on balance, continue to lag--or worse, to decline further.
Strong earnings don’t guarantee another bull market surge. But in the face of higher interest rates, it’s not much of a surprise that investors who still want to be in stocks would gravitate toward the ones with the healthiest fundamentals. And that is still the big-name multinational companies.
“We’re continuing to use the cliche that ‘big is beautiful,’ ” says Douglas Cliggott, chief investment officer at J.P. Morgan Securities in New York. “People think that because of the weak price performance of smaller stocks, that that’s where the value is. But it’s the big-cap companies that are generating the earnings.”
And how, exactly, are blue-chip companies performing that feat? Certainly, the stronger-than-expected U.S. economy has had something to do with it. Besides that, many big companies can hedge against the dollar’s strength in various ways (in futures markets, or in the way they source their products overseas, for example).
What some analysts might term “financial alchemy” also plays a role: When you’re big enough, and global enough, there are all sorts of accounting games you can play to “manage” your earnings in a given quarter.
But perhaps more than anything else, first-quarter earnings of blue-chip firms are demonstrating once again that these companies are so dominant in their product markets that they are, to a great degree, in control of their own destinies--something few smaller companies can say.
That has been the story of the past three years. That is why investors are paying what many analysts consider to be rich price-to-earnings ratios for the bluest of the blue-chip stocks. And while there are plenty of people on Wall Street who believe that earnings growth simply can’t stay this good for much longer, until investors see convincing evidence that the blue-chip earnings juggernaut is in real danger of shifting into reverse, these stocks are likely to remain the market’s undisputed leaders.
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No Slowdown
Some of the nation’s largest companies have reported robust first-quarter earnings gains, mocking expectations for slower profit growth. A sampling:
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Earnings per share: Pctg. Company 1Q ’96 1Q ’97 chng. Microsoft $0.44 $0.79 +80% Ralston Purina 0.55 0.69 +25% Merck 0.70 0.84 +20% Kimberly Clark 0.56 0.66 +18% McDonald’s 0.42 0.49 +17% 3M Co. 0.87 0.99 +14% Exxon 0.76 0.87 +14% Bristol-Myers Squibb 0.72 0.81 +13% General Electric 0.91 1.02 +12% Lockheed Martin 1.35 1.49 +10%
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Source: Companies listed
