Risks Associated with Earnings Reports

Q2 Earnings Season is underway with 4 of the nations largest banks reporting their numbers Friday and thousands of companies getting ready to report over the next few weeks.

Earnings season brings with it both the highs and lows of trading. We'll see companies that beat expectations and move higher and others that beat and move lower. We'll also see companies that miss expectations and move lower while others might miss but move higher. In almost every case, traders are as or more interested in forward guidance than actual results. For example, a company might miss its earnings and revenue projections but guide higher for the future. This, in turn, might drive the price higher rather than punish the company for missing its numbers for the prior quarter. In other words, investors are always looking forward.

One of the things we preach at EarningsBeats is to avoid owning a stock in a company that is about to report earnings. The reason? There's simply no telling how the market might react to the numbers.

For example, look at the chart below of Helen of Troy (HELE) a company that reported its numbers last Monday. The Street was looking for earnings per share of $1.13. Instead, HELE beat expectations with 1.28 per share. The reward for beating expectations? Not so nice with the stock losing almost 10% from the prior day.

Interestingly, you can see that the stock had risen nicely ahead of its earnings report and was poised for a break out. This could have given the impression that the company was poised to move higher after its report. But the market didn't like what it saw - or heard -with the stock tumbling on the news.

Of course the opposite could happen and the stock could have soared higher on the numbers, but in fact there's simply no telling how the market will react to a report. So to me it makes sense to move to the sidelines ahead of an earnings report and revisit once the dust has settled. You might miss out on any upside from a positive market reaction but you won't feel so good if you lose 10%  in the blink of an eye.

At EarningsBeats we scan for and add those companies that beat earnings expectations and have solid charts to our "Candidate Tracker." We then wait patiently for strategic entry points. Instead of chasing gaps in those cases where the response is positive, we'll wait for pullbacks to appropriate and high reward to risk entry levels. And by sitting on the sidelines into a specific earnings report we remove the risk of getting hammered in case the market reacts negatively to a report. If you would like to see a sample of the Candidate Tracker just click here.

Anyone who trades stocks knows how difficult it is to make a profit. Holding a stock into an earnings report brings with it unnecessary risks.

At your service,

John Hopkins
EarningsBeats

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