Shall we just agree that between now and whenever the Justice Department and the states make their official recommendations as to how Microsoft should be punished, we will talk about nothing but Microsoft?
CNBC is doing its part, offering up the information today that 71 points of Nasdaq’s 158-point drop today is directly attributable to Microsoft’s share price falling about 12 bucks. The network also tells us that if that MSFT had stayed flat today, the Dow would have been up more like 120, not a measly 60. Reuters moved a story over the wires this afternoon headlined, “Microsoft Misery Extends to Canada,” which explained that “a cross section of Canadian technology shares” were falling because of Microsoft’s bad day.
Part of the trouble, of course, were reports that the proposed punishment remedy might involve breaking up Microsoft into pieces. Here, to give you something to babble about when it comes time to talk Mister Softee at the office water cooler, are a couple of questions. First, let’s say Microsoft does get broken up (and before today, the one theme running through every story I’d read about the remedy negotiations was that the proposal was unlikely to include a breakup suggestion)–is that necessarily bad news for holders of Microsoft shares? Isn’t it just as likely that at least one of the two or three mini-Microsofts would emerge as a true growth company, à la AT&T spawn Lucent? Or, if you don’t buy that, and you see Microsoft being crippled by a breakup, then shouldn’t the shares of the legions of tech companies that compete with Microsoft, and thus the broader Nasdaq, rally?
Of course, Microsoft shares also fell because revenues came in below what analysts were expecting. And because the company, which quarter after quarter issues pessimistic statements about the road ahead, did the same thing this time around. (Microsoft is notorious for its ability to manage expectations on its future performance–though this time maybe the company could’ve skipped the pessimism.) Earnings, however, were 43 cents a share, which was 2 cents ahead of the Wall Street consensus and, more important, up from 35 cents a share in the year-earlier quarter. In that sense, the company’s numbers were of a piece with much of the news during the current season, which has brought an onslaught of good reports: Company after company has met or beaten earnings expectations. And yet, so far in the quarter, stocks are getting smacked. Why is this happening? This question leads to what is a far more interesting–and potentially scary, in the short term–issue for investors to contemplate.
Let’s say you’re at a party, and you’re having such a wonderful time that you abruptly shout: “It just doesn’t get any better than this!” Probably you would stay at this party for a quite a while longer. In yesterday’s New York Times, Gretchen Morgenson cited a study with different implications. In a nutshell, an investment company called Ned Davis Research found that stock prices have (since 1927) tended to rise fastest during quarters when earnings were bad. The theory is that this is because the stock market is good at anticipating–it sees times when earnings are bad as times when earnings are going to get better. But also, when it doesn’t get any better than this, that must mean it’s going to get worse. Under that theory, after making your announcement, you would immediately leave.
But to get back to the reality of investing for a moment: Where, exactly, would you go? It may be that earnings aren’t going to continue to accelerate at the pace they have recently, but it also still seems unlikely that, in the long term, you could find a better party anywhere else. This news is going to be less welcome to those who arrived right as this party was peaking than for those who have been around for a while. For the latter group, there is something almost comforting about a shakeout, and about the wave of press accounts focused on company earnings. In the long run, a company’s ability to earn money really is the best gauge of its value–even if that company is Microsoft.