CHICAGO – If corporate profits are the No. 1 measure of Wall Street’s health, the patient seems to be displaying some less-than-robust vital signs. And if the patient gets any weaker, the stock market may be in need of a pulse-o-meter.

That was apparent Friday, after the Dow Jones industrial average plummeted by 367 points on the 20th anniversary of Black Monday, following an earnings warning by Caterpillar Inc., which blamed weakness in the home construction industry for a reduced profit outlook. Its stock was hammered, even though third-quarter profits rose 21 percent.

Analysts said investors are in no mood for any signs of trouble, with oil briefly topping $90 a barrel and the housing industry beset by unsold real estate and hundreds of thousands of foreclosures.

Adding to the gloom, Standard & Poor’s Friday again reduced its ratings on residential mortgage-backed securities. The latest reduction, on more than 1,400 types of securities, added to a general unease about credit quality.

After five straight years of double-digit profit expansion, Wall Street is looking at meager results for this year’s third quarter.

Currently, year-over-year earning growth for major companies that have reported for the third quarter is running at a rate just over 7 percent, said Dirk van Dijk, research director for Zacks Investment Service. Thus far, only about 25 percent of major companies have rolled out results.

“If the current trend continues, it would mark the first time in 20 quarters that year-over-year per-share earnings growth hasn’t been in double digits,” he said. Nearly half of the latest per-share earnings growth has been due to corporate buybacks of stock, he added.

“When companies are buying back $100 billion worth of stock every three months, as they have recently, it has a major impact,” van Dijk said.

Other measures of corporate profits are somewhat more dire. Standard & Poor’s Corp. has recently said that third-quarter earnings for major companies will show a 3 percent drop. Other analysts say net income will be flat.

Whoever is right, the weakening growth in corporate bottom lines is casting doubt on the stock market’s run to new records. It was only 11 days ago that the Dow Jones industrial average hit an all-time high, closing at 14164.53.

On Friday, all 30 of the Dow’s components closed in the red, with shares of 3M among the hardest hit – down 8.6 percent. The index fell 366.94 to close at 13,522.02. The decline wiped out all of the gains since the Federal Reserve reduced interest rates on Sept. 18.

Midsized companies focused on American consumers are struggling to improve profit performance, amid slowing economic activity, while companies with a global focus are pulling in record earnings, helped by a weakening dollar, said Chicago investment manager Douglas Nardi.

“The big winners are technology companies that sell around the world,” said Nardi, of Legg Mason Investments. “Companies everywhere are in need of new computers and networking gear, and a majority of the demand is overseas.”


Earnings shortfalls in recent days have included Honeywell, Harley-Davidson, Advanced Micro Devices, Walgreens, Northern Trust Co., Allstate Corp., and major national banks and brokerage giants, as well as homebuilders.

The loss of earnings momentum adds to expectations that the Fed again will reduce short-term interest rates when it meets Oct. 30 and 31, from a current level of 4.75 percent.

Although some profit reports haven’t been up to snuff, a bigger concern is that companies like Caterpillar are beginning to reduce their outlooks for the months ahead, said Bannockburn, Ill.-based mutual fund manager Henry Van der Eb.

“This is raising concerns about next year,” he said.

On the plus side, the bulk of earnings disappointments have centered on financial stocks, and these are nearly out of the way, said Van der Eb, of the Gamco Mathers Fund.

“Companies that provide industrial materials and consumer goods still need to report, and they will show better results than the banks,” he said.

As for the latest banking results, “there is a deep desire among investors to put recent market dislocations behind them. Third-quarter write-downs are part of the healing process, a kind of truth and reconciliation exercise,” said economist Carl Tannenbaum of LaSalle Bank.

In the meantime, some companies are offering positive surprises. Baxter International shares jumped 8 percent in a few hours on Thursday, to a new high, as its profits came in well ahead of forecasts. And McDonald’s Corp. said Friday its third-quarter earnings jumped 27 percent, keeping the Oak Brook, Ill.-based fast-food company on a roll with investors.

According to van Dijk, Baxter’s earnings are part of trend in which health care stocks are showing the fastest-growing profits, with the biggest upside surprises.

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(c) 2007, Chicago Tribune.

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AP-NY-10-19-07 1945EDT