The market is so close to all-time highs again, but it can’t seem to get over the hump. It looks like another range-bound day for stocks today.
However, with earnings kicking off tomorrow, we should get some excitement back into the markets. It seems like traders are waiting to hear some results before they decide to take us to all-time highs or back down…
That said, I want to talk to you about earnings season, whether you should be trading it or not, what data you should be looking at, and how to interpret it.
But before I do that, here’s a quick update on yesterday’s FOMC Minutes. As a reminder, I like to follow what the Fed says and does because It gives me a good sense for overall market sentiment.
It turned out to be a non-event, some policymakers can justify a rate hike later this year while others are open to a rate cut. However, it appears that rates will be untouched for the rest of the year, something that the market has already priced in. In other words, no new updates from the Fed.
Earnings Season Approaching
The next catalyst for traders will start tomorrow… earnings season.
Now, I seldom trade options on earnings too much for reasons I’ll explain later in this post… but did have a couple of nice ones last quarter… like TTD.
That said, earnings season is exciting because for most stocks it’s when they’ll experience their most volatility.
Stocks can skyrocket higher…or…crash and burn.
However, it can be confusing as heck. That’s why I put together some information for you. It’s basically the key terms that get tossed around during earnings season, what they mean, how to interpret the data, the role of analysts play, the impact of the conference call… and so much more.
Corporate Earnings Explained
The Fed released its minutes yesterday… but it’s more or less what we’ve been expecting. Now, there’s something more pressing that can move the market – corporate earnings.
Now, I’ve been getting some questions about earnings and what data to look at. Well, for the most part, I trade options on stocks after they report earnings. You see, trading stocks the day they report earnings is very risky. First, these companies report their revenue (top line) and earnings per share (the bottom line), and other details about the previous quarter’s results. Thereafter, companies will generally jump on a conference call and provide guidance – their expectations for the next quarter.
What some traders don’t know is the fact that the market cares more about forward-looking statements rather than the actual numbers. That in mind, let’s take a look at the thought process behind earnings and a look into what’s coming up.
If you’ve ever seen an earnings headline, you’ll see something like Apple (AAPL) reported 4Q 2018 results. Revenue: $62.9B vs $61.57B estimate, EPS: $2.91 vs. $2.78, iPhone sales: 46.89M vs. 47.5M.
Now, if you don’t know what any of that means… that’s okay.
Let’s get into the details of that.
Revenue is just the total income earned by a company for selling its products and service. This is called the top line number because it’s at the top of a company’s income statement. Sometimes, you’ll hear some news outlets refer to this as sales or gross sales.
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Why EPS and Revenue Figures Don’t Matter A Whole Lot
On the other hand, we have earnings per share (EPS). Earnings reflect how much the company earned after taking into account expenses and costs of doing business. This is called the bottom line number because it sits at the end of a company’s income statement.
Once they find the company’s earnings, they will divide that number by the total number of shares outstanding. Consequently, this provides traders with an idea of how much value the company is providing to shareholders, on a per share basis… that’s the EPS figure.
Keep in mind, you may see GAAP and non-GAAP EPS. Now, we won’t get into the details of accounting… but you should be looking at non-GAAP EPS.
Traders don’t care a whole lot these headline numbers… because they’re backward looking. In general, revenue and EPS don’t tell you a whole lot about the future of the company. However, there are some times, when this matters.
Typically, you’ll see a comparison between the actual numbers and estimates. The consensus – or estimates – are just the average expectations from analysts or research firms.
Here’s a look at what I’m talking about.
As you can see, this gives traders an idea of what to expect for the company. Basically, when AAPL reports earnings this quarter, traders will be comparing the actual numbers to the average estimate for the quarter ending in March.
Unless a company reports revenue and EPS well above or below those expectations… the market isn’t going to care too much about them.
You might be wondering, “Well Jeff, what do traders actually care about?”
Guidance and anything the company might say about the future.
Revenue and Earnings Guidance
Guidance gives us actual clues as to what the company is projecting for the next quarter, and sometimes for the full calendar year. Earnings guidance, also known as forward-looking statements, includes revenue estimates, projected earnings, and expense estimates.
Now, even though companies are not required to provide earnings guidance… it’s become common for them to provide investors and traders with their expectations.
Guidance can move a stock. For example, you’ll often see companies provide guidance… and provide updates – either raising or lowering earnings guidance – as their expectations change based on how they’ve been doing.
This is the data you should care about.
So many traders just see the stock beat revenue and EPS estimates… buy the stock, only to lose money. Chances are, they didn’t realize the company lowered earnings guidance.
For example, back in January, Intel Corp. (INTC) dropped after the company missed on revenue for the fourth quarter of 2018 and provided light guidance for the next quarter.
Now, if the company has previously provided guidance, traders will compare the updated guidance to the previous figure. On the other hand, if there was no previous guidance released, then traders will compare earnings guidance to analyst estimates.
With INTC, it noted it expects to report an EPS of 87 cents in the next quarter. However, analysts were expecting $1.01 per share.
Here’s a look at what the stock did after it announced weak guidance.
Moving on. The earnings conference call is something you need to pay attention to as well.
Earnings Conference Call
Generally, companies will give more clues into their earnings announcement, and their forward-looking guidance. Not only that, but analysts will typically ask questions near the end of the conference call.
The earnings conference call is another factor that could move a stock. You see, you never really know what analysts and the company will say on the earnings conference call.
For example, last April, Philip Morris (PM) conducted its earnings conference call right around the opening bell (9:30 AM ET). This is the most volatile during the day… and so many traders weren’t listening to the call because they probably thought the company wasn’t going to say anything too crazy.
Well, those who were long wished they would’ve listened to the conference call.
Philip Morris actually noted the growth of one of its e-cigarette products was showing signs of slowed growth in Japan. Thereafter, analysts continued to ask questions about those sales.
Well, here’s what happened with the stock.
As you can see, earnings conference calls matter. Now, there are conference call transcripts… so that makes it easy for us to analyze stocks.
That said, these are the types of data points I’ll be looking for with earnings season coming up.
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