Jul 31, 2017
Personal Investor: Pulling back the curtain on earnings season
By Dale Jackson
There’s a good reason earnings season is often referred to as an earnings parade. Companies dress up the results to make the best impression as they march before investors.
That’s not to suggest they report whatever they want; regulators require financial disclosure at least every quarter. Revenue, earnings, and forward guidance must adhere to what are called “generally-accepted accounting principles,” or GAAP. They must speak a universal language to allow investors to compare results to other companies and other sectors.
The showbiz part of earnings season comes from how earnings relate to analyst consensus – also known as a beat, meet or miss – and how markets react. The consensus number is typically a combination of estimates from analysts and the company itself.
Companies will usually telegraph earnings well in advance to avoid wild swings in the stock price. If earnings results are going to move the stock at all, companies prefer the direction to be up. That’s why they will often “under-promise and over-deliver”. In other words, they will play down results hoping to beat consensus.
It’s difficult to pinpoint specific companies that play the expectation game, but consider this: at the halfway point of the current earnings season, about 75 per cent of S&P 500 companies have beat expectations. You might think it’s a reflection of cheap stock prices in relation to earnings, but the fact is over 65 per cent of the S&P 500 historically beat expectations, according to earnings tracker Thomson Reuters.
It’s important to note that an earnings beat does not always result in a stock going up. Big institutional investors with big institutional research departments might not be so surprised and may have already baked those earnings results into their price projections.
To get an insight into earnings the pros suggest going beyond beat, meet, or miss and read company and analyst notes. They may not be the glamourous part of the parade, but it’s better than walking behind.
