Expect the rally to continue with more better-than-expected earnings

On the back of better-than-expected earnings from major companies such as Microsoft, Apple and Ford, stock markets have been rallying this week. The S&P 500 closed on Friday at 1,102.66, while the Dow closed at 10,424.62. For the week, the S&P 500 is up 3.55%, while the Dow is 3.24% higher. It is just as what I wrote on July 11, before earnings began, that “I expect markets to continue rallying...on the back of mildly positive earnings.”

From a technical perspective, the S&P 500 closed at 1,102.66 on Friday, which is just above the psychological 1,100 level for the first time in one month. In fact, the index is officially out of correction territory, being only down 9% from April's high. Another piece of good news is that, according to Bloomberg, of the 149 companies that have reported earnings since July 12, 85% have beat analyst expectations. This is significantly higher than the historical average, and much higher than last quarter's beat rate of 63.7%.

The completion of the Euro zone bank stress test on Friday, with its better-than-expected result of only 7 out of 91 banks failing, should remove some uncertainty for investors. In addition, earnings this week from companies such as Chevron (CVX), DuPont (DD) and Boeing (B) should continue to beat expectations. 

Thus, I expect North American markets to continue rallying this week. Of course, the factors that could dampen the rally are bad economic data from the U.S. and the Euro zone. For the Euro zone, Hungary is currently the country where bad news is most likely to emerge, due to its wrangling with the IMF and EU over a bail-out package. For the U.S., consumer confidence and weekly initial jobless gains data being released this week have the potential of weakening the rally.

It's all about earnings this coming week

One week can certainly change a lot of things. Last week, investors were worried about a double-dip recession. This week, on the other hand, has been a great one for stocks, as the Dow has gone up for 4 days in a row to close at 10198.03 on Friday. In fact, major indices have risen about 5% this week. This has been caused by some encouraging economic and consumer data. For example, the IMF raised its world economic growth forecast for this year from 4.2% to 4.6%.

Despite the positive developments this week, fund tracker EPFR Global stated that US$11 billion left equity funds, while US$33.5 billion entered into the safer money market funds. In addition, Bespoke Investment Group noted that sentiment is at its lowest since May 2009. Meanwhile, the American Association of Individual Investors stated that bullish investor sentiment fell to just 21 percent last week, which is the lowest since early March 2009.

The markets are now turning to earnings for direction, as Alcoa Inc kicks off the earnings season after markets close on Monday. Other companies that will report earnings this week include Google Inc, Intel Corp, JPMorgan Chase & Co and Bank of America Corp.

Ever since the end of the recession, US companies have posted great earnings, which has partly driven the spectacular rally from the March 2009 lows. The good earnings have partially been caused by extensive cost-cutting. At this stage in the recovery, investors are increasing not only looking at the bottom-line (profits), but also the top-line (revenues). 

However, with investor sentiment being currently so bearish, earnings that are mildly positive are all that are needed to keep markets rallying. Thus, with bearish sentiment providing the perfect backdrop, I expect markets to continue rallying this week on the back of mildly positive earnings.

Markets continue to fall as U.S., Europe and China fears persist

It has certainly been a very tough week for markets worldwide. As of Friday, the Dow has fallen 7 days in a row, which is the longest negative streak since it fell for 8 days in a row in October 2008, during the depths of the financial crisis. In Canada, the TSX faced a similar fate as it ended the week down 511.79 points, including a 343.17-point drop on Tuesday.

The markets were dogged by 3 concerns this week: economic growth in the U.S., Europe and China. Early this week, there was a concern about the health of European banks as the ECB ended its program to make 1-year loans to banks, forcing banks to repay $442 billion. However, banks' subsequent demand for ECB's 3-month loans only totalled $131.9 billion, which was far lower than market's expectations of $200 to $250 billion. This showed that European banks were more well-capitalized than some had feared.

Tuesday's heavy fall for markets was a good overview for the whole week, as economic fears for the U.S., Europe and China pushed the Dow down 268.22 points and the TSX down 343.17 points.

Of the factors troubling markets this week, I think only the U.S. economic worries are justified, with the worries for Europe and China being overblown. With the U.S. unemployment rate at 9.5% and decreasing extremely slowly, U.S. economic growth in coming years will be slower than in previous cycles. This should be priced into stocks, and it is in fact being done.

However, a lack of bankruptcies in Spanish regional savings banks, and this week's low demand for the ECB's 3-month loans shows that the European situation is better than many are fearing.

As for China, the Conference Board's downward revision for its April leading economic indicator for China was the reason for fears of weak Chinese growth this week. However, the upward revision by the government for last year's GDP growth from 8.7% to 9.1% is a perfect example that the country continues to grow at its usual rapid pace. Similar to the U.S., monthly economic data emerging from China will continue to drive markets up or down on a given day. However, the fact remains that the economy there continues to grow at an 8 to 10% rate, with the government working to cool or stimulate the economy as the need arises.

Thus, while economic fears for the U.S. are seemingly justified, fears for Europe and China are overblown. Therefore, there is upside potential when investors realize this. However, it seems that fears will remain in the coming weeks, and I expect U.S., Europe and China fears to continue to pull markets lower this week.

U.S. economic data pounded markets this past week

Following a week in which world markets rallied, this week, the TSX finished down 219.74 points. In the U.S., the Dow lost 2.8%, while the S&P 500 fell 3.6%. From a technical perspective, the S&P 500 closed below its 200-day moving average, which is a bearish indicator.

The negative movement in markets this week was caused by poor economic data from the U.S. Meanwhile, the biggest positive news for the week, that China is allowing its currency to trade in a larger range, provided little upside strength for the markets on Monday.

Last Sunday, I wrote that “economic data from the U.S...might not be positive for stocks, since recent data have been worse than expectations.” That has indeed been the theme this week, with the National Association of Realtors saying on Tuesday that sales of existing homes unexpectedly fell 2.2% in May. In addition, on Wednesday, the U.S. Commerce Department reported that sales of new single-family homes dropped 33% in May.

Upside for markets likely in the coming week

This week, the completion of the banking reform bill by the House and Senate will be positive for the financial sector, since the measures are not as harsh as some had anticipated. In fact, on Friday, Citigroup, JP Morgan, Goldman Sachs and Bank of America saw their shares rise 4.2%, 3.7%, 3.5% and 2.7% respectively. I expect to see U.S. banks continue to rally on Monday.

In addition, the conclusion of the G20 summit should add a sense of stability to the markets, after world leaders pledged to slash deficits. 

The continuing stabilization of the debt crisis in Europe should also provide some upward momentum to the markets. While some worries about Greece were briefly apparent this week, the overall situation has been stable in the euro zone in the past few weeks.

Finally, the steep losses suffered in North American markets also presents opportunities for bargain hunters, making it likely that the coming week will see markets end in the black.

RIM poised for big move up in coming weeks

Research in Motion (RIM), the maker of the BlackBerry, will announce its earnings results tomorrow after markets close. Consensus expectations are for $4.35 billion in revenue and profits of $1.34 per share. Investors have been quite bearish with the stock lately. For example, RIM's closing share price today was C$62.01, which is only 10 times next year's earnings. Analysts' comments have been bearish as well, citing competition with Apple's new iPhone 4 and Android smartphones.

However, given the current share price and the company's prospects, analysts are overly bearish and the stock is clearly undervalued. Last quarter, RIM missed consensus estimates for earnings by US$0.01, and shipments was 0.5 million less than consensus. 

However, that was caused by an inventory run-down at Verizon, as the carrier sold down the Tour 9630 in anticipation of receiving its replacement, the Bold 9650. In fact, while Verizon accounted for about 28% of RIM's total sales in the previous quarter, last quarter saw that number fall to the low single-digits, as a result of the one-time inventory move. Despite the move by its biggest customer, RIM still only missed consensus estimates by US$0.01. 

  

This quarter, inventory factors should be the opposite, as the brand-new Bold 9650 was being stocked up by carriers such as Verizon and Sprint. In addition, the Pearl 3G was also released this quarter, making its way into various carriers.

With the overall bearishness that analysts have relative to previous quarters, RIM has been set up to beat consensus estimates. My prediction is that RIM will beat earnings estimates by US$0.05, which makes profits of US$1.39.

However, what is far more important than tomorrow's earnings will be the imminent release of several new products by RIM. Widely expected to be released in July are the new web-kit browser and OS 6. While RIM's current internet browser has lagged behind rivals Apple and Android, the web-kit browser, which was publicly shown in February, is expected to put the BlackBerry on par with its rivals. In addition, the new operating system OS 6 also revolutionizes the current browser, and adds many new features.

In addition, RIM is also expected to announce the Bold/Torch 9800 at around the same time, which will be RIM's first ever qwerty keyboard-and-touchscreen smartphone. The Bold 9670, which has a clam-shell design, will be released at the same time. Both smartphones will have the new web-kit broswer and OS 6. 

As a result, a satisfactory earnings announcement tomorrow, and the timely announcement of a list of new software and smartphones should clear the bearishness surrounding the shares, and boost shares above their 52-week high. Currently at only a P/E ratio of 12.5 for the Canadian-listed shares, the shares represent a significant discount to the historical P/E ratio of 18. Add in a host of new products that will be announced this summer in the coming weeks, and RIM is clearly at a price that is very attractive.