Wednesday, June 17, 2009

Reaction to FedEx Indicative of Market's Excessive Optimism

Shortly after FedEx, the global shipping company, released its results for the recently concluded quarter and provided guidance for the current quarter, a spate of explanatory headlines were generated and distributed across the usual media outlets. According to the reports, Wall Street was most focused on the current quarter's guidance (forward looking bunch they are), and what said guidance from the "bellwhether" company means for stocks and the economy going forward. We noted that "cautious" and "downbeat" seem to be the adjectives most commonly deployed in the overrall attempt to characterize the Company's current quarter forecast, which estimates earnings of between 30 and 45 cents per share v. analyst estimates of 71 cents per share. Earnings within the estimated range would correspond to a quarter to quarter decline of at best 19.6%, and at worst 53.1% based upon last quarter's 64 cents per share (ex items) of reported earnings. The fact that Wall Street is disappointed at this guidance is, we believe, indicative of the excessive Market optimism that has contributed to the current over-pricing of US equity markets.

The Market, choosing only to remember recessions that follow a "V" shaped progression, is naturally forward looking and anticipatory of quarterly earnings Gains. The fact that the broader market is trading at a multiple of greater than 20X reported earnings is irrelevant to many. The logic of the "V" shaped recovery supports the conclusion that the Market is only expensive based on Current earnings, and that as earnings rise in the quarters ahead, prices will increasingly be supported by the underlying earnings. The important distinction we see is that while the financial crisis has abated, there is still a considerable degree of weakness in the US economy as a whole. The United States continues to shed jobs at a rate that, while not indicative of a literal collapse in economic activity, would certainly be considered damaging. Furthermore, the rise in oil prices has rendered meaningless a substantial portion of the cost-cutting that nearly every company has been engaged in.

The primary lesson from today's "guidance disappointment", we think, is that there is no substitute for a common sense approach to investing, especially with regards to an individual investor's participation in the US equity markets.
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