Statuary by the U.S. Capitol in Washington.(Photo: J. Scott Applewhite, AP)
NEW YORK -- The uncertainty caused by the political squabbling over
how to fix the nation's fiscal problems has already taken a bite out of
corporate profits. If negotiations drag on and Congress can't seal a
deal to avoid automatic tax hikes and spending cuts by Dec. 31 or early
next year, profit growth for U.S. companies in future quarters could
also be squeezed, creating a fresh risk for stocks.
Over the past
eight weeks stocks have been driven by Wall Street's perception of how
the "fiscal cliff" talks are progressing. Hints of a deal have proved
bullish and fueled risk-taking, while signs that talks are breaking down
have put downward pressure on stocks as investors flee risk. The Dow
Jones industrial average has fallen 1.3% in the past two sessions,
including a 52-point drop to 13,139 in a holiday-shortened session
Earnings growth posted by companies in the Standard &
Poor's 500-stock index, which is a huge driver of stock prices, has been
decelerating. One culprit has been the political dysfunction that has
increased the odds that the U.S. economy will fall off the fiscal cliff,
an outcome economists say is likely to cause a recession.
inability of Washington lawmakers to reach a compromise that will
clarify policy related to taxes, regulations and deficits, has resulted
in a chilling effect on U.S. companies. Many CEOs are reluctant to
invest in their businesses, build new plants or hire new workers because
they don't know what the rules of the game will be.
And that cautiousness is dragging down earnings.
growth for the third quarter of 2012 was non-existent, with Standard
& Poor's 500 companies growth of 0.1%. Similarly, analyst estimates
for S&P 500 profit growth in the final three months of 2012 have
been cut to 3%, down from 10% on Oct. 1. In a further sign of CEO
caution, there have been 3.6 profit warnings for every one company
issuing a positive profit pre-announcement for the current quarter, vs. a
long-term average of 2.3 to 1, according to Thomson Reuters.
is likely that earnings estimates for many companies are at risk due to
fiscal cliff implications, as evidenced by the continuing decline in
those estimates," says Eric Schoenstein, co-portfolio manager of the
Jensen Quality Growth Fund. Despite ongoing risks, he says investors can
limit risk by focusing on quality businesses that have proved
successful and been able to churn out solid profits no matter what the
Congress broke for its Christmas break with deal
negotiations deadlocked, which boosted the odds of going over the cliff.
If the lawmakers can't hammer out a deal in the final six days of 2012,
it is likely to result in a short-term loss of investor confidence and a
further drag on business and consumer spending, which is expected to
act as a drag on profits.
"The approaching U.S. fiscal cliff
remains a formidable headwind to growth," says Bill Stone, chief
investment strategist at PNC. "Progress needs to be made ... to support
global equity markets and assure the global economic recovery continues
The fiscal cliff is actually more of a slope, with
the spending cuts and tax increases taking effect incrementally over
time, adds Rod Smyth, chief investment strategist at RiverFront
Investment Group. "If the fiscal cliff is resolved in the first few
weeks of 2013, its economic impact should be minimal," he said.
remains hopeful that a deal will get done in time to avoid the majority
of the fiscal drag. But he won't rule out the Dec. 31 deadline passing
before a deal gets done early in 2013. He expects markets to be volatile
during the ongoing negotiations. An eleventh-hour deal will likely be
bullish for stocks, as it will provide clarity and limit the damage to
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