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Weakness of big U.S. stocks raises recession flag

SAN FRANCISCO (MarketWatch) -- As the saying goes, "If Mama's not happy, nobody's happy." On Wall Street, the mamas of the market are clearly unhappy, and that will likely make stock investing more difficult in the second half of the year.

Europe's recession and the strong U.S. dollar (BUXX) (DXY) are creating headwinds for big U.S. companies that depend on international sales for major chunks of revenue. Downbeat earnings reports from General Electric Co. (GE) and Microsoft Corp.(MSFT) late this week are just the tip of a melting iceberg; Wall Street analysts are cutting third-quarter earnings forecasts and fourth-quarter expectations aren't any more hopeful.

The consensus now expects the 30 Dow Jones Industrial Average (DJIA) companies to post just 1%-1.5% year-over-year top-line growth for the third quarter, on average, down sharply from a range of 3%-3.7% two months ago, according to Nicholas Colas, ConvergEx Group chief market strategist.

"We are fast approaching levels where these estimates are unambiguously pointing to the risk of a U.S./global recession later in 2012 and into 2013," Colas wrote to clients in a research note published Friday.

Market volatility has been surprisingly quiet and stocks have been climbing the proverbial wall of worry this summer. But climbing in stormy conditions leaves less room for error; it wouldn't take much for stocks to slip. Read more: Volatility has settled down since the financial crisis.

"Analysts are still holding out some hope" for the fourth quarter, Colas noted. But, he added, "this is probably because they do not want to reduce their full-year earnings estimates just yet."

The Great Hope -- and perhaps the key support for stocks nowadays -- is that the Federal Reserve and other central bankers will soon haul out the fire hoses and once again douse the global financial system with cash. That would boost stocks and commodities, weaken the dollar, and brighten Wall Street's spirits in time for year-end bonuses.

"When corporations feel the pinch from a slower economy, they lay off workers," Colas said. "When they lay off workers, the Fed executes on its dual mandate and increases liquidity. And when the Fed increases liquidity, stocks go up."

But would stocks rise enough, and for long enough, to awaken investors' animal spirits and convince them to take more risk?

The Fed's previous rounds of quantitative easing -- the fire hose -- have shown diminishing returns. Which brings investors back to the biggest and brightest stars of the Street -- GE, Microsoft and other dividend darlings that are supposed to be the stock market's Atlas, carrying the weight of a troubled investment world on their broad shoulders.

Atlas has shrugged.

"If this is the best these large, well-capitalized companies can muster in terms of sales growth, can a U.S./European recession be far behind?" Colas said.

Colas is spot on. The U.S. might be the cleanest shirt in the laundry, as it's become fashionable to say -- but it's still in the hamper. Mama is not pleased.

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