Foolish Four Portfolio
Earnings Watch
Caterpillar and International Paper report this week
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RESTON, VA (Oct. 11, 1999) -- International Paper <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: IP)") else Response.Write("(NYSE: IP)") end if %> is continuing its modest climb before tomorrow's earnings release, but now it looks like Caterpillar <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: CAT)") else Response.Write("(NYSE: CAT)") end if %> is doing the same thing. Caterpillar's earnings are due out this Friday before the market opens. Do these recent rises as we head toward earnings announcement day bode well?
Our other two Foolish Four stocks report earnings this month as well: JP Morgan <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: JPM)") else Response.Write("(NYSE: JPM)") end if %> on the 18th and 3M <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: MMM)") else Response.Write("(NYSE: MMM)") end if %> on the 25th. The October earnings are actually rather important for Foolish Four investors -- at least for those using the recommended December renewal cycle.
These are the last earnings announcements before the stocks are re-evaluated at the end of the year. So these announcements can be fairly influential, although last year we saw "earnings warnings" coming out in mid-December that caused share prices to slide and helped propel Caterpillar and JP Morgan onto the Foolish Four.
Estimates for Caterpillar are not exactly robust. Consensus estimates are for $0.61 per share, which is down 34% from the same quarter last year. The estimates for fiscal year 1999 (ending in December) are for $3.03 per share compared to $4.10 in 1998. Fiscal year 2000 also looks anemic with estimated EPS of $3.80. Even 1998's $4.10 in profits trailed 1997, when earnings were a far more palatable $4.37 per share.
Despite this decline in earnings and no particular growth spurts projected, Caterpillar is selling for rather close to its high in 1997 and 1998. Therefore, it is selling for a higher multiple of those earnings. Back in 1997, with the company earning $4.37 per share and the stock selling in the high 50s, the price-to-earnings ratio (P/E) was around 13 (e.g., 58/4.37 = 13). Today, with trailing 12-month earnings (TTM -- earnings for the four most recent quarters) of $3.10 and a price of $58, the P/E is around 19.
So why are investors willing to pay more today for a dollar of Caterpillar's earnings than they were willing to pay last year or two years ago? Good question. I don't know the answer, but if I had to speculate, I would blame it on two things: P/E Inflation and the Dow Effect.
P/E Inflation is another term for an "overvalued" market, if you buy into that idea. Stocks in general sell for more today, relative to their earnings, than at just about any time in the past. For an interesting take on that, see Dow 36,000?
The Dow Effect is my spur-of-the-moment theory stolen mostly from our general Foolish Four explanation. Caterpillar is a Dow stock, a major global player. Even if earnings are down at the moment and prospects aren't bright, I think investors are starting to realize that a company like this isn't likely to be "out" permanently. As the global economy recovers from last year's slump, Caterpillar is bound to share in that recovery. So even someone who isn't following a Dow Investing-type strategy might find the company attractive as a long-term investment, especially investors who might be getting a bit concerned with all those stocks that are selling for 100 times earnings -- if they even have earnings. A company that makes bulldozers and tractors is nothing if not down to earth.
Got a better theory? Share it with us.
Fool on and prosper!