US growth wobbles may herald a slump

AS AMERICAN COMPANIES prepare to report their third-quarter results over the next few days, the stock market is bracing itself for the worrying insight it may give into the US economy. Until now the stock market has taken for granted America's fundamental stability and seemingly limitless growth.

This has been the main bulwark against global financial chaos and meltdown.

Now suddenly US economic strength does not look so impregnable after all. Wall Street analysts have been slashing their third-quarter earnings forecasts for companies all across the economy, just as earnings expectations for a growing number of British companies are also sinking. Two months ago the average forecast for S&P 500 earnings growth was 8%. Now it is closer to 1%, and the estimates are still falling. At this rate, corporate America appears to be heading for its worst three-month performance since the third quarter of 1991 when it was in the depths of recession. A troop of big companies have already issued profit warnings. They include Walt Disney, DuPont, Union Carbide, Gillette and Hilton. Their problems range from shrinking profit margins and rising labour costs in the US to falling exports due to the Asian crisis and the strong dollar. Stock market bulls argue that this has already been taken into account by share prices, many of which have plunged 40% or more from their peaks. The Dow Jones Industrial Average is down more than 15% from its summer high. Some bullish investors see little to worry about in the third- quarter results. Donaldson, Lufkin & Jenrette, for instance, believes only a few companies will suffer a really bad earnings decline while most will do all right. "From here on, things look good for big company stocks at least," says Charles Blood of Brown Brothers Harriman. "They've fallen about as far as they're going to." If all the bad news has already been discounted there should be nothing to fear from the third-quarter results. Indeed, the stock market steadied somewhat this week, perhaps signalling that it was not unduly concerned. But is the market still being too optimistic? There is, after all, the fourth quarter and the whole of next year to consider. Wall Street continues to be extremely optimistic about corporate performance in this longer-term outlook, with estimates for next year's S&P 500 earnings growth still up at around 18%-20%. However, this appears to take almost no account of the growing problems with the economy in general, including a mushrooming trade surplus and falling capital investment. Employment also appears to have peaked. Goldman Sachs has cut its forecast for next year's US GDP growth from 2.7% to 1.7%. If, as seems likely, 20% growth in 1999 is frankly unachievable for most companies in these economic conditions, the upcoming third- quarter results hold a greater significance. They will not be simply a hiccup in America's continuing growth but a harbinger of wider and longer-term economic slowdown. That could hardly come at a worse time as the financial problems in the Far East and Russia threaten to spread to Latin America. A key question is whether the prospect of longer-term weakness has already been taken into account by the fall in share prices. Charles Blood believes it has. Moreover, he says, the outlook for corporate profits is not all bad. "Sooner or later interest rates are going to fall and that will help corporate profitability." However, much depends on that ever-elusive element in stock market behaviour: sentiment. With so many uncertainties at home and abroad, many fear it may not take much to knock the wind out of US share prices all over again. If the one thing that has seemed completely reliable - US corporate profit growth - turns out not to be so reliable after all, it could do just that.

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