“With corporate-earnings season in full swing, investors are closely watching the numbers and looking for hints of where corporate profits may be heading next,” writes Craig Karmin in today’s Wall Street Journal.

“Don’t bother, says a high-profile strategist on Wall Street.”

“Richard Bernstein, U.S. market strategist for Merrill Lynch, says company guidance on future profits is cloudier than it has been in decades. Quarterly earnings since 2000 have been at their most volatile in 60 years, and investors shouldn’t expect this year to be much different. ‘The reliability of earnings forecasts is probably at an all-time low,’ he says.”

“As if on cue, some big U.S. companies last week seemed to back up his view. Microsoft and International Business Machines both reported better-than-expected quarterly earnings, but both also indicated a lack of visibility for their businesses in the months ahead. General Electric said Friday that its 2003 earnings may grow anywhere from 3% to 13%, acknowledging the difficulty of forecasting in the current environment.”

“This means, Mr. Bernstein suggests, that investors need to value stocks based on trailing earnings, rather than on hazy profit forecasts. While that approach sounds logical enough, it turns one of the basic precepts of investing on its ear — the notion that the stock market reflects a company’s future earnings prospects, rather than what it has done in the past.”

“Looking backward bolsters Mr. Bernstein’s case. Under the trailing measure, the S&P 500 stock average is still trading at a multiple of around 30 times its 12-month trailing earnings, or at one of its highest historical levels outside of the late 1990s bubble years. That ratio compares to a multiple of around 19 times forward earnings.”

“But many investors say that looking backward could be a mistake. They argue this bearish view will miss out on a rebound in the economy, once it comes. In that case, some of the stocks poised to gain under a rebounding economy include a number with some weak trailing earnings, like many cyclical stocks from chip makers to some banks and financials.”

“But Mr. Bernstein counters that even taking into account Merrill Lynch’s forecast of 2.5% economic growth in 2003, stock prices at 30 times look unsustainable. ‘My argument isn’t that the economy won’t strengthen, but rather that the market is pricing in an another economic boom,’ he says. ‘That means investors are more likely to get a negative surprise than a positive one.’ “

“On thing is clear: Analysts watching forward-looking numbers are predicting a powerful recovery in the second half of the year, despite mostly guarded profit forecasts from companies so far. Consensus analyst estimates call for about a 10% rise in profits for the first two quarters, but the figure climbs to 16% for the third quarter and 21% for the fourth.”