US corporate profits had the smallest increase in three quarters as the war in Iraq, the SARS outbreak and rising unemployment led companies and consumers to curb spending.
Second-quarter earnings for Standard & Poor's 500 Index companies probably grew 5.2 percent, according to Thomson Financial, a service that tracks analysts' profit estimates.
Earnings rose 14 percent in the first quarter.
Motorola Inc, Eastman Kodak Co and Southwest Airlines Co lowered profit forecasts during the quarter that ended yesterday in a sign the economy was struggling more than two years after the 2001 recession ended. Many investors anticipated a rebound for earnings and the economy in the second half of the year, helping many US stocks surge to the highest levels in almost a year.
"We could see this economy start to pick up steam as the year goes on," said John Waterman, chief investment officer at Rittenhouse Asset Management Inc in Radnor, Pennsylvania, which manages more than US$13 billion in assets.
"It's not a sure thing, but we think we are on the verge right now," he said.
The Standard & Poor's 500 has risen 15 percent in the quarter after falling 23 percent last year. The Dow Jones Industrial Average has gained 13 percent in the period while the NASDAQ Composite Index has jumped 21 percent. The major US stocks indexes are poised for the biggest quarterly gains in four-and-a-half years.
Profits among S&P 500 companies are forecast to rise 13 percent in the third quarter and 21 percent in the fourth quarter, according to Thomson Financial. The projections don't always compare net income and estimates may exclude some costs.
"The improved earnings picture -- since really the start of the year -- is the real reason we've seen the run in the market," said Jim McDonald, director of equity research at Northern Trust Corp, which manages US$365 billion.
"People have a higher degree of confidence in the earnings picture than they have in several years," he said.
This quarter's profit gains mark the fifth in a row after five straight declines, the longest streak of shrinking earnings since 1970. In last year's second quarter, profit for S&P 500 companies rose 1.4 percent.
Investor optimism for the second half isn't matched by Federal Reserve policy makers, who last week said the economy has yet to "exhibit sustainable growth."
Unemployment rose in May to 6.1 percent, its highest level in more than eight years, while orders for durable goods -- items made to last at least three years -- fell for a second month.
"Things are just so damn uncertain right now," said Chuck Hill, research director at Thomson Financial.
Hill said he is concerned that companies will disappoint investors in the third and fourth quarters.
The two bright spots for the economy -- housing sales have held near record highs, while consumers have used money from mortgage refinancing to keep spending and pay off debt.
Economists are calling for growth at a 3.5 percent annual rate in the third quarter and a 3.7 percent rate in the fourth, up from 1.4 percent during the first quarter, according to Blue Chip Economic Indicators.
"We see a lot of signs that things will strengthen, but they are just happening now, and you won't see them in earnings this quarter," Waterman said. "This quarter is kind of a transition period with the Iraq war ending."