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The fourth quarter earnings season has started on a positive note, as this morning’s report from Constellation Brands (STZ - Analyst Report) and Tuesday’s results from Alcoa (AA - Analyst Report) and Monsanto (MON - Analyst Report) show. This is a more reassuring start than what we saw at this stage in the preceding quarter, perhaps indicating that expectations may have come down enough to make positive surprises easier to reach this reporting season. But it’s way too early to make even that modest prediction at this stage, as the bulk of the earnings season is ahead of us.

Total earnings are expected to be up +0.5% in the fourth quarter from the same period last year. This is a sharp drop from the +7.9% growth expected in the quarter in late September, just before the third quarter earnings season was getting underway. As was the case in the third quarter (and practically every quarter before that), the actual growth rate will most likely be better than these pre-season expectations, given management teams’ mastery of under-promising and over-delivering.

Ahead of the third quarter reporting season, the expectation was for earnings in that quarter to be down -3.4%. While the actual earnings drop turned out to be ‘only’ -0.1%, it was nevertheless the weakest earnings growth rate in almost 12 quarters. And if the magnitude of outperformance in the fourth quarter is comparable to the last four quarters, then the final growth tally should be in the +2% vicinity. This would mean that corporate earnings were essentially flat in the second half of 2012.

But this sub-par earnings growth trend is not expected to last long, or at least that’s what current consensus expectations mean. After another quarter of weak results in the first quarter of 2013, earnings growth resumes in the following quarter and ramps up materially in the back half of 2013. I have been skeptical of those growth expectations for a while now, but that’s exactly what the market is pricing at present.

Management guidance on the earnings conference calls is always very important, but it will be far more critical this earnings season. Guidance from management teams would frame expectations for the coming quarters. Whether those expectations will hold or come down will depend to a large extent on how management teams describe business conditions on the fourth quarter earnings calls in the coming days.


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