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Key Points:

• First quarter season is over. Median surprise of 3.70% and surprise ratio of 3.03 for EPS, 1.32% and 2.23 for revenues. Solid growth of 17.1% (19.1% ex-Financials) reported. Slowdown from fourth quarter pace of 30.9%, mostly due to super financial company growth in 4Q. Growth ex-Financials as 19.8% in 4Q.
• Just a handful (26) of S&P 500 2nd quarter results in. Off to a strong start, with 20.1% year-over-year earnings growth, and 10.0% revenue growth. Median earnings surprise 5.61% and median sales surprise 1.88%. Remaining firms (474) expected to grow 9.65%, 12.2% growth expected, excluding Financials.
• Full-year total earnings for the S&P 500 jumps 45.9% in 2010, expected to rise 17.0% further in 2011. Growth to continue in 2012 with total net income expected to rise 13.6%. Financials a major earnings driver in 2010. Excluding Financials growth was 27.8% in 2010, and expected to be 17.8% in 2011 and 11.7% in 2012.
• Total revenues for the S&P 500 rise 7.80% in 2010, expected to be up 5.84% in 2011, and 6.37% in 2012. Excluding Financials, revenues up 9.19% in 2010, expected to rise 9.97% in 2011 and 5.88% in 2012.
• Annual Net Margins marching higher, from 5.88% in 2008 to 6.39% in 2009 to 8.65% for 2010, 9.51% expected for 2011 and 10.21% in 2012.
• Margin Expansion major source of earnings growth. Net margins ex-Financials 7.79% in 2008, 7.08% in 2009, 8.28% for 2010, 8.87% expected in 2011, and 9.36% in 2012.
• Revisions ratio for full S&P 500 at 0.87 for 2011, at 0.95 for 2012, both neutral readings. Sharp drop from recent weeks, but driven by old increases falling out, not new cuts. Ratio of firms with rising to falling mean estimates at 1.09 for 2011, 1.07 for 2012, marginally positive readings. Total revisions activity near-seasonal lows.
• S&P 500 earned $544.3 billion in 2009, rising to $793.8 billion in 2010, expected to climb to $928.9 billion in 2011. In 2012 the 500 are collectively expected to earn $1.055 Trillion.
• S&P 500 earned $57.12 in 2009: $83.32 in 2010 and $97.46 in 2011 expected bottom up. For 2012, $110.70 expected. Puts P/Es at 15.9x for 2010, and 13.6x for 2011 and 11.9x for 2012, very attractive relative to 10-year T-note rate of 3.18%. Top-down estimates, $95.95 for 2011 and $104.01 for 2012.

First Quarter Slower Growth, Still Strong

The first quarter earnings season is done. Net income growth was 17.12%. While that is down from the extremely strong 30.9% in the fourth quarter, it is still a very healthy growth rate. Almost all of the growth slowdown is from a failure of the Financial sector to repeat the massive growth they posted in the fourth quarter.

Growth excluding the Financials was 19.1%, down only slightly from the 19.8% growth posted in the fourth quarter. Before the first quarter earnings season started, it was expected that growth would be just 6.7% for the S&P 500 as a whole, and 10.2% excluding Financials.

Second Quarter Earnings Season Beginning

We now have 26 S&P 500 firms that have already reported their second quarter results. We are off to a very strong start. Those 26 firms posted total net income growth of 20.1% over a year ago. That is down just slightly from the 21.9% growth that those same 26 firms posted in the first quarter.

The results were also much better than expected, with a median surprise of 5.61% and a 3.60 surprise ratio for earnings. Top-line results are also off to a strong start, with 10.0% year-over-year growth for the 26, actually up from the 9.45% growth they posted in the first quarter. If anything, the top-line surprises have been even better than the bottom-line surprises, with a median surprise of 1.88% and a massive 7.67 surprise ratio.

In the early going, though, the medians and surprise ratios can see very sharp fluctuations, so it is still a bit early to read too much into the results. For the vast majority (474) still to report, the rate of growth is expected to continue to slow in the second quarter, with total growth of 9.65% and growth of 12.18% if the Financials are excluded.

Note, however, that those year-over-year growth expectations are still higher than the expectations for the first quarter before the first quarter earnings season started. I would be very surprised if we didn’t end up with double-digit growth on both a total and ex-Financials basis. Normally about three times as many firms will report positive surprises as disappointments, and that in turn makes the initial growth projections very conservative.

Revenue growth for the remaining firms is also expected to slow to 5.60% among those yet to report, down from 6.28% they reported in the first quarter. All of the slowdown, and then some, is expected to come from the Financials. Excluding them, growth is expected to accelerate to 9.72% from 7.15% in the first quarter. Much of the strong revenue growth is coming from the commodity-oriented Energy and Materials sectors.

Net Margin Expansion

Net margins continue to expand. The 26 that have reported have net margins of 8.44%, up from 7.73% a year ago. The remainder are expected to post net margins of 9.62% up from last year’s 9.14. The Financials continue to be the key drivers of overall margin expansion. If the Financials are excluded, net margins are still expected to expand, but just to 8.94% from last year’s 8.71%.

On an annual basis, net margins continue to march northward. In 2008, overall net margins were just 5.88%, rising to 6.39% in 2009. They hit 8.65% in 2010 and are expected to continue climbing to 9.51% in 2011 and 10.21% in 2012.

The pattern is a bit different, particularly during the recession, if the Financials are excluded, as margins fell from 7.78% in 2008 to 7.08% in 2009, but have started a robust recovery and rose to 8.28% in 2010. They are expected to rise to 8.87% in 2011 and 9.36% in 2012.

Full-Year Expectations

The expectations for the full year are very healthy, with total net income for 2010 rising to $793.8 billion in 2010, up from $544.3 billion in 2009. In 2011, the total net income for the S&P 500 should be $928.9 billion, or increases of 45.9% and 17.0%, respectively. The expectation is for 2012 to have total net income passing the $1 Trillion mark to $1.055 Trillion.

That will also put the “EPS” for the S&P 500 over the $100 “per share” level for the first time at $110.70. That is up from $57.12 for 2009, $83.32 for 2010 and $97.46 for 2011. In an environment where the 10-year T-note is yielding 2.92%, a P/E of 15.85x based on 2010 and 13.55x based on 2011 earnings looks attractive. The P/E based on 2012 earnings is 11.93x.

There has been a sharp decline in the ratio of estimate increases to estimate cuts over the last few weeks, with the Revisions ratio for 2011 falling to 0.87 from 1.09 two weeks ago. It was close to 2.0 for both years at the height of the last earnings season. For 2012, the ratio is down to 0.95 from 1.18 two weeks ago. Most of that decline has been due to old estimate increases falling out of the sample than due to a flood of new estimate cuts.

We are nearing the seasonal low point in estimate revisions activity. While the numbers are still firmly in the neutral zone, the sharp fall off is a bit of a yellow flag. If it continues to be lackluster as revisions activity picks up in a few weeks it will be a significant reason for concern.

Fundamentals Remain Solid

The fundamental backing for the market continues to be solid. It is important to keep your eyes on the prize.

There is lots of news out there, and much of it is more dramatic than earnings results, but rarely does it have more significance for your portfolio. Earning are -- and are going to remain -- the single-most-important thing for the stock market. Interest rates are an important, but distant second.

We certainly had an impressive week in the market last week, with the S&P climbing by almost 60 points or 4.67%. The rise through Thursday was just about enough to offset the losses earlier in the quarter and bring the second quarter to a nearly flat close.

Greek Drama to Continue

The gains on Friday got the third quarter off to a strong start. The primary reason for the rally is that the Greek debt can was successfully kicked down to road. This is not the end of the Greek drama by any means. Soon enough they are going to find that the road is a cul-de-sac. The austerity programs that were imposed on the Greek economy as the cost of getting the loans are shrinking its economy.

It is extremely unlikely that Greece will ever be able to pay the money back, and the debt will be restructured (aka partial default). So is the whole exercise pointless? Perhaps not, if the European banks use the time to build up their capital so when Greece does default, they will not go under as well. Either Greece will be a perpetual charity case, propped up by mostly Germany, or it will leave the Euro and go back to a very much devalued Drachma. Unscrambling that egg will not be easy or painless.

The Debt Ceiling

The big remaining worry is the debt ceiling fight on this side of the Atlantic. The difference between Greece and the U.S. is that Greece is unable to pay its debts. The U.S., if the debt ceiling is not raised, will simply be unwilling to do so. That would be entirely an unforced error.

The Government of the United States defaulting on its debt would likely have a much larger impact on the markets and the economy than the impact of Lehman Brothers defaulting on its debts. The nation would be shoved right back into recession, and one deeper than the one that followed the Lehman collapse. If that happens, then corporate profits would also collapse.

However, when push comes to shove, I find it hard to believe that even Congress could let that happen. While not the most likely case, the chance of no increase by the time the ceiling is hit is a very real possibility.

Over the long term we need to close the budget gap, but we need a balanced approach to it. In theory, both tax increases and spending cuts tend to slow an economy, but by how much varies a great deal depending on the nature of the tax increases and the nature of the spending cuts. Cutting tax subsidies for, say, ethanol is likely to be far less damaging than, say, cutting spending on infrastructure.

The most recent plan being discussed is a package of 87% spending cuts and 13% revenue increases, almost all of the revenue increases are from cutting spending that is embedded in the tax code, and which mostly benefits the wealthy. I think that is way out of balance already.

There is a good argument that what Obama should do is simply ignore the debt ceiling and issue debt anyway. There are substantial grounds that the debt ceiling is unconstitutional in Section Four to the 14th Amendment, but an equally strong argument based on Article One, Section Eight that doing so would have the Executive branch stepping on the Legislative branch’s turf. It could provoke a Constitutional crisis.

In the end, I find it almost impossible to imagine the debt ceiling not being either raised or ignored. The most likely scenario, and the one that the markets are clearly betting on, is that there will be a last-minute settlement.

...But What If...?

The chance of this game of chicken having a tragic ending is no longer trivial. That tragic ending would result in a huge market crash.

Taking out some insurance would make a lot of sense in here. My preferred way of doing so would be to buy some out of the money September puts. On the the S&P 500 ETF (SPY) the September 120 puts are only trading for $0.89. Obviously I hope that they would expire worthless, just as I hope that my life insurance policy does not pay off anytime soon. Still, it is insurance that would be well worth having.

On balance I remain bullish, and I think we will end the year with the S&P 500 north of 1400, but that does not mean we will have a smooth ride between here and there. Strong earnings should trump a dicey international situation and the drama in DC (provided it turns out to be just drama, and the game of chicken does not end in tragedy).

Valuations on stocks look very compelling, with the S&P trading from just 13.55x 2011, and 11.93x 2012 earnings. That is extremely competitive with the 3.18% yield on the 10-year Treasury note.    However, be prepared to move to the exits (or have some put protection in place) if it looks like the debt ceiling will not be raised.

Scorecard & Earnings Surprise

• First quarter season done, and the second quarter season starting. So far, 26 (5.2%) S&P 500 reports in. Off to a strong start, with year-over-year growth of 20.1% -- a 3.60 surprise ratio, and 5.61% median surprise.
• Positive year-over-year growth for 20, falling EPS for 6 firms (3.33 ratio); 76.9% of all firms reporting have higher EPS than last year.
• Very early, the percentages and ratios will change dramatically over next few weeks.
• Construction and Finance lead in surprises (but just one report each).

Historically, a “normal earnings season” will have a surprise ratio of about 3:1 and a median surprise of about 3.0%. Thus in the early going we are doing much better than average on the median front, and about average on the ratio front. Early on the ratios and medians can be very volatile, but it looks like an OK start to things. Pay attention to the percent reporting in evaluating the significance of the sector numbers.

Scorecard & Earnings Surprise 4Q Reported
Income Surprises	Yr/Yr Growth	% Reported	Surprise Median	EPS Surp Pos	EPS Surp Neg	# Grow Pos	# Grow Neg
Construction	-65.00%	9.09%	75.00	1	0	1	0
Finance	220.54%	1.25%	51.39	1	0	1	0
Basic Materials	53.15%	4.35%	13.51	1	0	1	2
Consumer Discretionary	-3.37%	9.68%	8.21	3	0	7	1
Retail/Wholesale	17.89%	16.67%	5.45	6	1	4	2
Computer and Tech	14.32%	8.45%	1.90	3	3	1	0
Transportation	33.17%	11.11%	1.74	1	0	4	0
Consumer Staples	15.89%	11.11%	0.93	2	1	1	0
Business Service	2.59%	5.56%	0.00	0	0	1	0
Medical	NA	NA	NA	NA	NA	NA	NA
Auto	NA	NA	NA	NA	NA	NA	NA
Industrial Products	NA	NA	NA	NA	NA	NA	NA
Conglomerates	NA	NA	NA	NA	NA	NA	NA
Aerospace	NA	NA	NA	NA	NA	NA	NA
Oils and Energy	NA	NA	NA	NA	NA	NA	NA
Utilities	NA	NA	NA	NA	NA	NA	NA
S&P 500	20.08%	5.20%	5.61	18	5	20	6

Sales Surprises

• Strong revenue start, revenue growth of 10.0% among the 26 that have reported, median surprise 1.88% (very strong), surprise ratio of 7.67.
• Growing Revenues outnumber falling revenues by ratio of 4.20, 80.7% have higher sales than last year.
• Still too early to come to a conclusion, but we are off to a very good start. Pay close attention to the % reported column in evaluating the sector numbers.

Sales Surprises
Sales Surprises	Yr/Yr Growth	% Reported	Surprise Median	Sales Surp Pos	Sales Surp Neg	# Grow Pos	# Grow Neg
Finance	27.53%	1.25%	39.859	1	0	1	0
Construction	-6.14%	9.09%	15.205	1	0	0	1
Basic Materials	21.20%	4.35%	6.389	1	0	1	0
Consumer Discretionary	10.54%	9.68%	2.991	3	0	2	1
Consumer Staples	1.76%	11.11%	1.844	3	1	3	1
Transportation	11.92%	11.11%	1.82	1	0	1	0
Business Service	5.44%	5.56%	1.702	1	0	1	0
Retail/Wholesale	9.36%	16.67%	1.568	7	1	8	0
Computer and Tech	11.94%	8.45%	0.611	5	1	4	2
Medical	NA	NA	NA	NA	NA	NA	NA
Auto	NA	NA	NA	NA	NA	NA	NA
Industrial Products	NA	NA	NA	NA	NA	NA	NA
Conglomerates	NA	NA	NA	NA	NA	NA	NA
Aerospace	NA	NA	NA	NA	NA	NA	NA
Oils and Energy	NA	NA	NA	NA	NA	NA	NA
Utilities	NA	NA	NA	NA	NA	NA	NA
S&P 500	10.00%	5.20%	1.884	23	3	21	5

Reported Quarterly Growth: Total Net Income

• The total net income is 20.1% above what was reported in the second quarter of 2010, down from 21.9% growth the same 26 firms reported in the first quarter. Excluding Financials, growth of 15.4%, up from 13.9% reported in the first quarter. In the first quarter for full S&P total growth of 17.1%, growth excluding Financials 19.2%.
• Sequential earnings growth is 6.85% for the 26 that have reported.
• For full S&P in 1Q, Industrials, Materials, Autos and Energy all reported over 40% growth.
• Still too early to draw any conclusions -- six sectors with no reports in at all, five more with only a single firm reporting.

Quarterly Growth: Total Net Income Reported
Income Growth	"Sequential Q3/Q2 E"	"Sequential Q2/Q1 A"	Year over Year 2Q 11 A	Year over Year 3Q 11 E	Year over Year 1Q 11 A
Finance	-27.05%	27.53%	220.54%	67.66%	481.15%
Basic Materials	+ to -	-32.94%	53.15%	- to -	7.64%
Transportation	-14.47%	117.97%	33.17%	25.60%	7.11%
Retail/Wholesale	6.85%	-29.85%	17.89%	5.50%	10.80%
Consumer Staples	6.68%	-5.41%	15.89%	-3.89%	11.61%
Computer and Tech	-34.67%	36.85%	14.32%	0.66%	25.86%
Business Service	16.16%	-9.16%	2.59%	4.72%	6.50%
Consumer Discretionary	69.86%	26.61%	-3.37%	-18.25%	-1.00%
Construction	54.89%	-227.27%	-65.00%	-27.72%	57.14%
Medical	Na	Na	Na	Na	Na
Auto	Na	Na	Na	Na	Na
Industrial Products	Na	Na	Na	Na	Na
Conglomerates	Na	na	Na	Na	Na
Aerospace	Na	na	Na	Na	Na
Oils and Energy	Na	na	Na	Na	Na
Utilities	Na	na	Na	Na	Na
S&P	-16.57%	6.85%	20.08%	-1.18%	21.91%
Excluding Financials	-3.89%	5.75%	15.43%	10.39%	13.89%

Expected Quarterly Growth: Total Net Income

• The total net income of 9.65% is expected, down from 15.08% year-over-year growth in the first quarter (and down from 30.8% growth in the fourth quarter).
• Sequential earnings growth of 1.64% expected, 2.47 ex-Financials.
• Growth ex-Financials of 12.18% is expected, versus 19.31% in the first quarter and down from 19.8% in fourth quarter.
• Very early expectations are for 12.46% year-over-year growth in the third quarter, 15.01% excluding Financials.
• Materials. Energy and Industrials expected to lead again; Construction, Aerospace and Autos expected to post lower total net income than last year.

Quarterly Growth: Total Net Income Expected
Income Growth	Sequential Q3/Q2 E	Sequential Q2/Q1 A	Year over Year 2Q 11 E	Year over Year 3Q 11 E	Year over Year 1Q 11 A
Basic Materials	-7.41%	4.96%	47.12%	43.83%	55.63%
Oils and Energy	-0.49%	11.84%	38.46%	52.68%	40.52%
Industrial Products	2.74%	5.70%	24.66%	23.49%	65.09%
Business Service	4.06%	9.59%	15.06%	17.48%	12.50%
Transportation	9.28%	28.18%	13.60%	15.66%	25.85%
Conglomerates	4.18%	8.07%	13.29%	-11.31%	-29.30%
Computer and Tech	10.57%	-6.51%	9.19%	6.69%	24.75%
Consumer Discretionary	16.04%	-2.89%	8.98%	21.41%	15.81%
Finance	-3.84%	-1.34%	6.81%	7.88%	7.16%
Retail/Wholesale	-6.57%	9.29%	5.27%	7.17%	4.85%
Consumer Staples	10.09%	10.85%	3.06%	5.72%	3.42%
Medical	0.76%	-3.72%	0.22%	2.44%	5.90%
Utilities	28.01%	-5.42%	0.19%	5.63%	-1.09%
Auto	-17.43%	-8.48%	-1.34%	0.92%	46.88%
Aerospace	5.36%	7.26%	-6.32%	1.98%	5.04%
Construction	33.59%	184.12%	-12.08%	89.32%	-32.11%
S&P 500	3.53%	1.64%	9.65%	12.46%	15.08%
Excluding Financial	4.85%	2.74%	12.18%	15.06%	19.31%

Quarterly Growth: Total Revenues Reported

• Revenue growth strong at 10.00%, up from the 9.45% growth posted (23 firms) in the first quarter.
• Sequentially revenues 0.94% lower than in the first quarter.
• Still very early, most of the attention should be on the yet-to-report tables.

Quarterly Growth: Total Revenues Reported
Sales Growth	"Sequential Q3/Q2 E"	"Sequential Q2/Q1 A"	Year over Year 2Q 11 A	Year over Year 3Q 11 E	Year over Year 1Q 11 A
Finance	-36.09%	24.68%	27.53%	-11.97%	0.41%
Basic Materials	-43.79%	-13.05%	21.20%	3.33%	6.14%
Computer and Tech	-12.28%	13.50%	11.94%	6.56%	29.56%
Transportation	-1.72%	9.20%	11.92%	9.66%	11.06%
Consumer Discretionary	10.18%	11.26%	10.54%	7.76%	6.30%
Retail/Wholesale	12.46%	-8.22%	9.36%	8.58%	7.22%
Business Service	5.54%	-1.51%	5.44%	6.56%	4.53%
Consumer Staples	-1.46%	0.77%	1.76%	2.90%	1.22%
Construction	5.24%	36.92%	-6.14%	-2.55%	-2.79%
Medical	Na	Na	Na	Na	Na
Auto	Na	Na	na	Na	Na
Industrial Products	Na	Na	na	Na	Na
Conglomerates	Na	Na	na	Na	Na
Aerospace	Na	Na	na	Na	Na
Oils and Energy	Na	Na	na	Na	Na
Utilities	Na	Na	na	Na	Na
S&P 500	3.26%	-0.94%	10.00%	7.44%	9.45%
Excluding Financial	3.99%	-1.32%	9.72%	7.71%	9.59%

Quarterly Growth: Total Revenues Expected

• Revenue growth expected to slow to 5.60 year over year, down from the 6.28% growth posted in the first quarter (474 firms). Ex-Financials growth of 9.32% expected, up from 7.15% in the first quarter.
• Sequentially revenues 0.94% lower than in the first quarter, down 1.36% ex-Financials.
• Financials, Aerospace and Staples sectors have falling revenues, seven sectors post double-digit revenue growth, Energy, Materials, Industrials and Discretionary expected to grow sales over 15%.
• As one would expect in an economic recovery, cyclicals are leading the way on revenue growth. Energy and Materials growth helped by strong commodity prices.

Quarterly Growth: Total Revenues Expected
Sales Growth	Sequential Q3/Q2 E	Sequential Q2/Q1 A	Year over Year 2Q 11 E	Year over Year 3Q 11 E	Year over Year 1Q 11 A
Oils and Energy	3.47%	4.90%	25.04%	27.75%	25.06%
Basic Materials	-3.46%	3.98%	17.90%	13.22%	20.13%
Industrial Products	-0.01%	5.73%	17.30%	13.17%	25.14%
Consumer Discretionary	1.90%	6.45%	15.19%	14.51%	10.58%
Transportation	3.04%	8.60%	12.02%	13.72%	11.97%
Computer and Tech	2.83%	0.18%	10.46%	7.87%	15.37%
Business Service	0.52%	3.30%	7.64%	6.25%	7.58%
Utilities	-13.98%	-2.50%	7.01%	2.54%	-0.69%
Medical	-0.28%	1.03%	4.57%	5.08%	4.33%
Retail/Wholesale	-1.43%	1.24%	4.44%	5.01%	5.68%
Auto	-0.76%	-1.48%	2.13%	8.60%	13.96%
Construction	4.60%	16.32%	2.04%	8.92%	0.97%
Conglomerates	-0.16%	-1.16%	0.33%	2.75%	7.40%
Aerospace	5.10%	6.51%	-0.79%	1.80%	-3.24%
Finance	-1.28%	-7.33%	-2.73%	-2.76%	-2.19%
Consumer Staples	1.08%	-0.79%	-3.31%	-1.00%	5.86%
S&P 500	1.01%	-0.63%	5.60%	5.70%	6.28%
Excl Financials	1.48%	2.03%	9.32%	9.75%	7.15%

Quarterly Net Margins Reported

• Sector and S&P net margins are calculated as total net income for the sector divided by total revenues for the sector.
• Net margins for the 26 that have reported expand to 8.44% from 7.73% a year ago, and up from 7.83% in the first quarter. Net margins ex-Financials rise to 8.08% from 7.68% a year ago and 7.54 in the first quarter.
• Among the sectors with firms that have reported, six see year-over-year margin expansion, three see contraction.
• Margin expansion the key driver behind earnings growth. Due to seasonality, it is best to compare to a year ago, particularly at the individual company and sector levels.

Quarterly: Net Margins Reported
Net Margins	Q3 2011 Estimated	Q2 2011 Reported	1Q 2011 Reported	4Q 2010 Reported	3Q 2010 Reported	2Q 2010 Reported
Finance	31.97%	28.01%	27.39%	17.76%	16.79%	11.14%
Business Service	25.04%	22.75%	24.67%	26.17%	25.48%	23.39%
Computer and Tech	16.89%	22.67%	18.80%	19.53%	17.88%	22.20%
Basic Materials	-6.43%	18.94%	24.56%	0.55%	-2.56%	14.99%
Consumer Discretionary	14.57%	9.45%	8.31%	9.77%	19.21%	10.81%
Consumer Staples	9.06%	8.37%	8.92%	10.68%	9.70%	7.35%
Transportation	4.60%	5.29%	2.65%	2.94%	4.02%	4.44%
Retail/Wholesale	2.93%	3.09%	4.04%	2.92%	3.02%	2.86%
Construction	2.70%	1.83%	-1.97%	3.72%	3.64%	4.91%
Medical	NA	NA	NA	NA	NA	NA
Auto	NA	NA	NA	NA	NA	NA
Industrial Products	NA	NA	NA	NA	NA	NA
Conglomerates	NA	NA	NA	NA	NA	NA
Aerospace	NA	NA	NA	NA	NA	NA
Oils and Energy	NA	NA	NA	NA	NA	NA
Utilities	NA	NA	NA	NA	NA	NA
S&P	7.74%	8.44%	7.83%	7.07%	7.42%	7.73%
Excluding Financial	7.47%	8.08%	7.54%	6.87%	7.29%	7.68%

Quarterly Net Margins Expected

• Sector and S&P net margins are calculated as total net income for the sector divided by total revenues for the sector.
• Net margins for the 474 yet to report firms expected to expand to 9.72% from 9.14% a year ago, and up from 9.38% in the first quarter. Net margins ex-Financials rise to 8.94% from 8.71% a year ago and from 8.88% in the first quarter.
• Ten sectors expected to see year-over-year margin expansion, six to see contraction. Sequentially ten up and five down. Further margin expansion expected for third quarter, rising to 10.01%, and rising to 9.40% excluding the Financials.
• Margin expansion the key driver behind earnings growth.

Quarterly: Net Margins Expected
Net Margins	Q3 2011 Estimated	Q2 2011 Estimated	1Q 2011 Reported	4Q 2010 Reported	3Q 2010 Reported	2Q 2010 Reported
Finance	16.77%	15.11%	16.19%	17.43%	16.43%	15.28%
Computer and Tech	14.69%	14.72%	12.41%	10.08%	11.06%	11.61%
Business Service	13.32%	13.20%	13.85%	12.62%	13.68%	13.77%
Consumer Staples	12.84%	12.36%	11.65%	12.23%	11.57%	11.56%
Medical	13.11%	11.80%	10.56%	10.59%	12.04%	11.07%
Basic Materials	10.18%	9.77%	8.94%	10.73%	9.41%	8.65%
Oils and Energy	10.36%	9.48%	8.03%	9.60%	9.89%	9.35%
Consumer Discretionary	8.89%	8.93%	8.38%	7.72%	7.19%	8.07%
Industrial Products	9.01%	8.69%	8.69%	7.89%	8.18%	8.18%
Conglomerates	7.94%	8.58%	8.50%	6.83%	6.48%	6.88%
Transportation	10.04%	8.42%	9.22%	10.01%	9.04%	8.89%
Utilities	10.20%	7.78%	8.02%	6.78%	9.10%	8.31%
Auto	6.52%	6.19%	6.14%	6.49%	6.19%	6.55%
Aerospace	5.09%	6.16%	6.64%	3.76%	5.52%	6.38%
Retail/Wholesale	3.31%	3.56%	3.29%	4.14%	3.30%	3.53%
Construction	4.15%	3.10%	1.27%	1.95%	2.28%	3.60%
S&P	10.01%	9.62%	9.38%	9.01%	9.14%	9.14%
Excluding Financial	9.40%	8.94%	8.88%	8.83%	8.81%	8.71%

Annual Total Net Income Growth

• Following rise of just 2.0% in 2009, total earnings for the S&P 500 jumps 45.9% in 2010, 17.0% further expected in 2011. Growth ex-Financials 27.8% in 2010, 17.8% in 2011. 
• For 2012, 13.6% growth expected. 11.7% ex-Financials.
• Auto net income expands more than 15x in 2010, Financial net income more than quadruples.
• All sectors expected to show total net income rise in 2011 and in 2012. Utilities only (small) decliner in 2010. Twelve sectors expected to post double-digit growth in 2011 and 13 in 2012. No sector expected to grow less than 5% in 2012.
• Cyclical/Commodity sectors expected to lead in earnings growth again in 2011 and into 2012.
• Sector dispersion of earnings growth narrows dramatically between 2010 and 2012, only four sectors expected to grow more than 20% in 2012, seven grew more than 40% in 2010.

Annual Total Net Income Growth
Net Income Growth	2009	2010	2011	2012
Basic Materials	-50.26%	72.13%	41.34%	13.28%
Industrial Products	-55.09%	50.09%	39.48%	11.34%
Oils and Energy	-35.08%	36.41%	34.42%	20.50%
Consumer Discretionary	-30.22%	44.44%	21.59%	20.32%
Construction	-5.06%	47.83%	20.50%	11.93%
Transportation	-15.44%	22.51%	18.95%	16.05%
Computer and Tech	1.35%	15.95%	16.05%	14.32%
Finance	- to +	319.28%	13.43%	22.49%
Business Service	- to +	1457.95%	13.32%	17.22%
Retail/Wholesale	-23.60%	11.23%	12.17%	18.05%
Conglomerates	- to -	- to +	11.35%	53.15%
Consumer Staples	2.61%	14.65%	10.81%	13.89%
Medical	5.79%	11.72%	9.03%	9.56%
Auto	2.53%	10.40%	5.68%	5.76%
Utilities	-13.47%	-0.86%	3.67%	5.97%
Aerospace	-16.75%	21.02%	2.20%	15.63%
S&P	2.04%	45.85%	17.03%	13.59%

Annual Total Revenue Growth

• Total S&P 500 Revenue in 2010 rises 7.80% above 2009 levels, a rebound from a 6.68% 2009 decline.
• Total revenues for the S&P 500 expected to rise 5.84% in 2011, 6.37% in 2012.
• Energy to lead revenue race in 2011. Six other sectors (all cyclical) also expected to show double digit revenue growth in 2011.
• All sectors but Staples and Finance expected to show positive top-line growth in 2011, but four sectors expected to show positive growth below 5%. All sectors see 2012 growth, three in double digits.
• Aerospace the only sector to post lower top line for 2010. Revenues for Financials were virtually unchanged.
• Four sectors expected to post double-digit top line growth in 2012, led by Construction and Industrials. No sector expected to post falling revenues.
• Revenue growth significantly different if Financials are excluded, down 10.46% in 2009 but growth of 9.19% in 2010, 9.97% in 2011, and 5.88% in 2012.

Annual Total Revenue Growth
Sales Growth	2009	2010	2011	2012
Oils and Energy	-34.41%	23.15%	23.11%	7.04%
Basic Materials	-19.30%	12.78%	16.42%	5.72%
Industrial Products	-20.96%	12.34%	15.33%	11.98%
Transportation	7.25%	10.83%	12.96%	10.71%
Consumer Discretionary	-4.95%	3.93%	12.92%	7.32%
Auto	-21.40%	8.53%	11.62%	9.53%
Computer and Tech	-10.42%	15.36%	10.29%	10.11%
Business Service	-2.43%	5.99%	6.33%	6.69%
Utilities	-5.84%	2.46%	5.81%	2.89%
Retail/Wholesale	1.40%	4.08%	5.65%	6.02%
Medical	6.25%	11.37%	4.35%	2.63%
Construction	-15.92%	0.47%	4.26%	12.12%
Conglomerates	-13.30%	0.94%	2.18%	4.89%
Aerospace	6.51%	-0.34%	1.07%	6.21%
Consumer Staples	-0.36%	4.77%	-2.07%	5.17%
Finance	21.51%	0.10%	-15.24%	5.40%
S&P 500	-6.69%	7.80%	5.84%	6.37%
Excluding Financial	-10.46%	9.19%	9.97%	5.88%

Annual Net Margins

• Net Margins marching higher, from 5.88% in 2008 to 6.39% in 2009 to 8.65% for 2010, 9.51% expected for 2011. Trend expected to continue into 2012 with net margins of 10.21% expected. Major source of earnings growth.
• Financials significantly distort overall net margins. Net margins ex-Financials 7.78% in 2008, 7.08% in 2009, 8.28% for 2010, 8.87% expected in 2011. Expected to grow to 9.36% in 2012.
• Financials net margins soar from -8.42% in 2008 to 16.87% expected for 2012.
• All sectors but Medical and Utilities saw higher net margins in 2010 than in 2009. All sectors but Utilities expected to post higher net margins in 2011 than in 2010. Widespread margin expansion currently expected for 2012 as well with all sectors expected to post expansion in margins.
• Seven sectors to boast double-digit net margins in 2012, up from just three in 2009.
• Sector net margins are calculated as total net income for sector divided by total revenues. However, there are generally fewer revenue estimates than earnings estimates for individual companies.

Annual Net Margins
Net Margins	2009A	2010E	2011E	2012E
Computer and Tech	11.86%	15.20%	16.32%	16.89%
Finance	2.59%	10.85%	14.51%	16.87%
Medical	13.17%	13.06%	13.22%	13.63%
Business Service	10.78%	11.80%	12.76%	13.80%
Consumer Staples	9.85%	10.50%	11.60%	12.18%
Conglomerates	8.19%	9.02%	9.91%	11.15%
Consumer Discretionary	7.50%	8.84%	9.20%	10.07%
Oils and Energy	6.27%	7.65%	8.66%	9.01%
Industrial Products	6.15%	7.46%	8.59%	9.36%
Basic Materials	4.47%	6.82%	8.27%	8.87%
Transportation	5.83%	7.59%	8.01%	8.88%
Utilities	8.36%	8.09%	7.92%	8.16%
Aerospace	5.04%	6.12%	6.19%	6.73%
Auto	0.36%	5.23%	5.31%	5.68%
Retail/Wholesale	3.06%	3.37%	3.51%	3.80%
Construction	-0.51%	2.68%	2.86%	3.91%
S&P 500	6.39%	8.65%	9.51%	10.21%
Excluding Financials	7.08%	8.28%	8.87%	9.36%

Earnings Estimate Revisions: Current Fiscal Year
The Zacks Revisions Ratio: 2011

• Revisions ratio for full S&P 500 at 0.87, down from 1.09 two weeks ago -- still a neutral reading. Nearing seasonal low in activity, meaning changes are driven more by old estimates falling out than new estimates being added (lowering significance of revisions ratio).
• Medical only sector with revisions ratio above 2.0. Transports and Business Service also strong. Construction, Conglomerates and Finance weak. Seven sectors with positive revisions ratios, eight negative (below 1.0). Many sector sample sizes very small.
• Ratio of firms with rising to falling mean estimates at 1.09, down from 1.33, now a neutral reading.
• Total number of revisions (4-week total) plunging at 1,287, down from 1,379 two weeks ago (-6.7%), and down from 5068 at height of earnings season.
• Increases at 599 down from 720 (-16.8%), cuts at 688, up from 659 (+4.4%).

The Zacks Revisions Ratio: 2011
Sector	%Ch Curr Fiscal Yr Est - 4 wks	# Firms Up	# Firms Down	# Ests Up	# Ests Down	Revisions Ratio	Firms up/down
Medical	0.22	26	16	51	15	3.40	1.63
Transportation	0.69	4	5	31	16	1.94	0.80
Business Service	0.07	8	8	19	10	1.90	1.00
Retail/Wholesale	-1.69	23	21	103	55	1.87	1.10
Basic Materials	0.15	15	6	26	18	1.44	2.50
Aerospace	-0.01	1	5	5	4	1.25	0.20
Industrial Products	-0.20	13	8	22	19	1.16	1.63
Auto	0.03	3	3	9	9	1.00	1.00
Oils and Energy	-0.66	19	18	72	74	0.97	1.06
Consumer Discretionary	-0.83	15	11	28	39	0.72	1.36
Computer and Tech	-0.98	28	24	72	101	0.71	1.17
Utilities	0.12	19	15	23	33	0.70	1.27
Consumer Staples	-0.39	15	11	24	44	0.55	1.36
Finance	-1.07	26	45	106	229	0.46	0.58
Conglomerates	0.03	5	3	2	5	0.40	1.67
Construction	-2.34	4	6	6	17	0.35	0.67
S&P	-0.60	224	205	599	688	0.87	1.09

Earnings Estimate Revisions: Next Fiscal Year
The Zacks Revisions Ratio: 2012

• Revisions ratio for full S&P 500 at 0.95, down from 1.18 two weeks ago -- still in neutral territory.
• Three sectors have at least two increases per cut. Transports and Medical lead. Sample sizes very small for man sectors, lowering significance.
• Seven sectors with negative revisions ratio (below 1.0). Construction and Finance especially weak.
• Ratio of firms with rising estimate to falling mean estimates at 1.07, down from 1.31 -- in neutral territory.
• Total number of revisions (4-week total) at 1,223, down from 1,363 two weeks ago (-10.3%), and from 4,571 at seasonal peak.
• Increases at 597 down from 738 last week (-19.1%), cuts rise to 626 from 625 last week (+0.0%).

The Zacks Revisions Ratio: 2012
Sector	%Ch Next Fiscal Yr Est - 4 wks	# Firms Up	# Firms Down	# Ests Up	# Ests Down	Revisions Ratio	Firms up/down
Transportation	1.05	5	3	24	7	3.43	1.67
Medical	0.39	24	16	62	28	2.21	1.50
Business Service	0.04	10	6	19	9	2.11	1.67
Retail/Wholesale	0.28	30	14	96	61	1.57	2.14
Basic Materials	0.68	13	8	22	15	1.47	1.63
Industrial Products	0.30	12	9	24	19	1.26	1.33
Oils and Energy	0.35	20	17	72	59	1.22	1.18
Aerospace	-0.02	3	3	7	6	1.17	1.00
Consumer Staples	-0.09	17	13	26	25	1.04	1.31
Consumer Discretionary	-0.23	12	15	29	35	0.83	0.80
Auto	-0.55	4	3	6	8	0.75	1.33
Utilities	-0.04	17	20	31	42	0.74	0.85
Conglomerates	0.05	4	3	2	3	0.67	1.33
Computer and Tech	-0.67	26	27	62	97	0.64	0.96
Finance	-0.35	23	46	106	192	0.55	0.50
Construction	-0.84	4	7	9	20	0.45	0.57
S&P	-0.05	224	210	597	626	0.95	1.07

Total Income and Share

• S&P 500 earned $544.3 billion in 2009, rising to earn $793.8 billion in 2010, $928.9 billion expected in 2011.
• Early expectations that the S&P 500 total earnings will hit the $1 Trillion mark in 2012 at $1.055 Trillion.
• Finance share of total earnings moves from 5.9% in 2009 to 17.8% in 2010, 17.3% expected for 2011; 18.6% in 2012, but still well below 2007 peak of over 30%. Energy share also rising, going from 11.9% in 2009 to 14.3% in 2012.
• Medical share of total earnings far exceeds market cap share (index weight), but earnings share expected to shrink from 17.3% in 2009 to 10.8% in 2012, down each year.
• Market Cap shares of Construction, Staples, Retail, Transportation, Industrials and Business Service sectors far exceed earnings shares of any of the years from 2010 through 2012.
• Earnings shares of Energy, Finance, and Medical well above market cap shares.
• As a general rule, one should try to overweight sectors with rising earnings shares, underweight falling earnings shares, but also overweight sectors where earnings shares exceed market cap shares.

Total Income and Share
Income ($ Bill)	Total Net Income $ 2010	Total Net Income $ 2011	Total Net Income $ 2012	% Total S&P Earn 2010	% Total S&P Earn 2011	% Total S&P Earn 2012	% Total S&P Mkt Cap
Finance	$134,561	$162,141	$181,487	16.95%	17.45%	17.20%	17.48%
Computer and Tech	$141,470	$160,465	$196,557	17.82%	17.27%	18.63%	15.51%
Oils and Energy	$97,365	$135,804	$151,200	12.27%	14.62%	14.33%	12.04%
Medical	$101,509	$107,276	$113,454	12.79%	11.55%	10.75%	10.46%
Consumer Staples	$62,796	$68,464	$75,007	7.91%	7.37%	7.11%	8.50%
Retail/Wholesale	$59,474	$65,906	$75,063	7.49%	7.09%	7.11%	8.67%
Utilities	$49,924	$51,759	$54,850	6.29%	5.57%	5.20%	6.18%
Conglomerates	$23,171	$32,750	$37,099	2.92%	3.53%	3.52%	3.34%
Consumer Discretionary	$28,658	$32,147	$37,950	3.61%	3.46%	3.60%	3.82%
Basic Materials	$26,440	$31,451	$36,500	3.33%	3.39%	3.46%	4.15%
Industrial Products	$16,841	$22,638	$27,280	2.12%	2.44%	2.59%	2.76%
Aerospace	$12,714	$14,754	$16,867	1.60%	1.59%	1.60%	2.01%
Business Service	$14,143	$14,454	$16,714	1.78%	1.56%	1.58%	1.47%
Transportation	$11,686	$14,208	$17,095	1.47%	1.53%	1.62%	1.94%
Auto	$11,090	$12,567	$14,731	1.40%	1.35%	1.40%	1.13%
Construction	$1,936	$2,156	$3,302	0.24%	0.23%	0.31%	0.54%
S&P 500	$793,778	$928,940	$1,055,156	100.00%	100.00%	100.00%	100.00%

P/E Ratios

• Trading at 15.85x 2010, 13.55x 2011 earnings, or earnings yields of 6.31% and 7.38%, respectively.  P/E for 2012 at 11.93x or earnings yield of 8.38%.
• Earnings Yields still very attractive relative to 10-year T-Note rate of 3.18%.
• Autos have lowest P/E based on 2012 earnings. Energy lowest on 2011. Financials also in single digits for 2012.
• Construction has highest P/E for all three years, but falling fast.
• Auto and Finance high 2009 P/Es to fall dramatically in 2010 and 2011, continue down in 2012.
• S&P 500 earned $57.12 in 2009 rising to $83.32 in 2010. Currently expected to earn $97.46 in 2011 and $110.70 for 2012.

P/E Ratios
P/E	2009	2010	2011	2012
Oils and Energy	23.4	15.6	11.2	10.0
Auto	199.4	12.8	11.3	9.6
Finance	57.8	13.8	12.2	9.9
Medical	14.3	13.0	12.3	11.6
Aerospace	15.8	13.1	12.8	11.1
Basic Materials	31.3	18.2	12.8	11.3
Computer and Tech	24.2	16.4	13.6	12.1
Conglomerates	18.7	16.8	14.9	12.7
Utilities	15.5	15.6	15.0	14.2
Industrial Products	28.2	20.7	15.4	12.8
Consumer Staples	19.0	17.0	15.6	14.3
Retail/Wholesale	21.0	18.3	16.6	14.5
Consumer Discretionary	24.2	19.8	16.6	14.3
Business Service	23.1	19.9	17.2	15.0
Transportation	30.2	20.9	17.2	14.3
Construction	NM	34.9	31.4	20.5
S&P 500	23.12	15.85	13.55	11.93

FY1 Revisions of More than 5%

The first table below shows the S&P 500 firms with the biggest increases in their FY1 (mostly 2010) mean estimate over the last 4 weeks. The second shows the largest declines. To qualify there must be more than 3 estimates for FY1, and have a mean estimate of more than $0.50. In addition to the change in the mean estimate, the net percentage of estimates being raised is shown for both FY1 and FY2, as well as the P/E ratios based on each year’s earnings is shown.

Note that estimate momentum and value are not mutually exclusive. The most interesting of these firms will be where the net revisions percentage (#up-#dn/Tot) is more than 0.50 but less than 1.00. Big mean estimate changes based on a handful of individual revisions are suspect, but could prove to be the most interesting if other analysts follow suit. On the other hand if all the analysts have raised their estimates already, the mean estimate is less likely to rise again over the next month.

• This week’s cut off +/- 5%, 4 make increase cut, 16 make decrease cut
• 2 increases greater than 10%, 6 decreases
• Financials dominate the decrease list

Biggest FY1 Revisions(Largest Increases)
Company	Ticker	%Ch Curr Fiscal Yr Est - 4 wks	%Ch Next Fiscal Yr Est - 4 wks	# Up-Dn/Tot %Ch Curr Fiscal Yr Est - 4 wks	# Up-Dn/Tot %Ch Next Fiscal Yr Est - 4 wks	P/E using Curr FY Est	P/E using Next FY Est
Amer Intl Grp	AIG	12.44%	1.34%	0.00	0.00	7.83	9.28
Discover Fin Sv	DFS	26.88%	14.67%	0.93	0.94	7.63	9.07
Joy Global Inc	JOYG	5.50%	6.79%	0.75	0.80	17.03	14.01
Red Hat Inc	RHT	5.92%	3.28%	0.86	0.42	61.51	51.70

Biggest FY1 Revisions(Largest Declines)
Company	Ticker	%Ch Curr Fiscal Yr Est - 4 wks	%Ch Next Fiscal Yr Est - 4 wks	# Up-Dn/Tot %Ch Curr Fiscal Yr Est - 4 wks	# Up-Dn/Tot %Ch Next Fiscal Yr Est - 4 wks	P/E using Curr FY Est	P/E using Next FY Est
Bank Of Amer Cp	BAC	-51.03%	-0.87%	-0.55	-0.19	21.20	6.56
Travelers Cos	TRV	-31.17%	-3.60%	-1.00	-0.74	13.69	9.74
Allstate Corp	ALL	-29.73%	-0.28%	-0.89	-0.19	23.32	8.23
Cincinnati Finl	CINF	-24.52%	-0.89%	-0.67	-0.17	49.53	19.58
Alpha Natrl Res	ANR	-12.35%	-0.81%	-0.33	0.00	10.78	7.38
Owens-Illinois	OI	-10.97%	-6.40%	-0.78	-0.67	10.48	8.27
Lennar Corp -A	LEN	-9.34%	-3.98%	-0.31	-0.20	34.59	19.45
Morgan Stanley	MS	-7.90%	-4.60%	-0.23	-0.50	11.78	8.31
Xl Group Plc	XL	-7.43%	-0.29%	-0.60	-0.06	20.33	10.50
Natl Semicon	NSM	-7.31%	-0.88%	-0.65	-0.31	21.25	18.37
Sunoco Inc	SUN	-7.05%	1.15%	-0.27	0.08	48.90	17.86
Nabors Ind	NBR	-6.57%	-2.51%	-0.62	-0.32	16.00	10.25
Rowan Cos Inc	RDC	-6.05%	0.96%	-0.20	-0.13	19.17	10.34
Newell Rubbermd	NWL	-5.97%	-6.39%	-1.00	-0.86	10.15	9.14
Chubb Corp	CB	-5.42%	-0.03%	-0.85	-0.10	11.92	10.76
Goldman Sachs	GS	-5.05%	-4.32%	-0.40	-0.38	9.98	7.43

Data in this report, unless stated otherwise, is through the close on Thursday 6/30/2011.

We use the convention of referring to the next full fiscal year to be completed as 2011, not all firms are on December fiscal years, this can cause discontinuities in the data. The data is based on FY1, not based on 2011, even though I may call it 2011 in the report. All numbers, including historical ones, reflect the current composition of the S&P 500, thus some historical numbers may differ from those reported by S&P which are based on the composition of the index at the time of the reports.

 
AMER INTL GRP (AIG): Free Stock Analysis Report
 
BANK OF AMER CP (BAC): Free Stock Analysis Report
 
DISCOVER FIN SV (DFS): Free Stock Analysis Report
 
JOY GLOBAL INC (JOYG): Free Stock Analysis Report
 
RED HAT INC (RHT): Free Stock Analysis Report
 
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