Is Good News Fully Discounted?

8/14/2017


Were investors impressed with quarterly results? That is a question we ask ourselves every three months, but the answer is seldom as nuanced as today.

With more than 85% of S&P 500 Index members having reported, per-share profits for the index are on pace to rise about 12%. About 73% of S&P 500 companies exceeded consensus profit estimates, while 69% beat on sales. Both percentages are well above historical norms, as are the average amounts by which earnings and sales exceeded estimates. Also, guidance for the September quarter has been unusually favorable.

Despite the solid numbers, shares of companies posting results have declined about 0.8% on the day they announced results — the worst first-day reaction since 2014, according to Bespoke Investment Group.

While bears label the downbeat first-day reaction a worrisome trend, bulls say it merely reflects the fact that investors bid up stocks in advance of the reports. After all, the Dow Industrials and S&P 500 reached all-time highs in late July and early August. Broad measures like the S&P 1500 advance-decline have deteriorated since late July but remain within striking distance of all-time highs.

Collective wisdom

Why do we care if other investors were impressed with June-quarter results? That is a question best answered in four parts:

• Collectively, investors usually do a good job of assimilating information like earnings releases or economic reports. While not always correct, their collective verdict on whether news is good or bad for stocks is usually accurate.

• When stocks don't go up on seemingly strong results, it suggests the good news has already been fully discounted. Historically, a failure to rally on good news has indicated that a bull market may be nearing its end.

• From a Dow Theory perspective, stocks advance on improving earnings and dividends in the second stage of a bull market. In the third and final stage, stocks advance on hope and "new-era" speculation. We'd like to see stocks rising because of corporate fundamentals, not because investors think low inflation and low interest rates are here to stay.

• For stocks on our buy lists, we use first-day reactions as an indicator of whether a company posted solid results. The broad market's reaction can help put our stocks' reactions in perspective. As shown in the table below, we're sticking with several names that slumped on earnings news. Our buy lists have 92% to 95% in stocks.

JUNE-QUARTER EARNINGS UPDATE
1-Day
Chg. Vs.
S&P 1500
(%)
Year-To-Year Change
----- % Surprise -----
Company (Price; Ticker)
Report
Date
EPS
(%)
Sales
(%)
EPS
(%)
Sales
(%)
J.P. Morgan ($94; JPM)
7/14
(1.4)
17.4
4.5
15.2
2.2
Snap-on ($155; SNA)
7/20
(4.7)
10.2
5.6
1.6
0.0
Citizens Fin. ($35; CFG)
7/21
(2.1)
37.0
9.2
6.8
(0.3)
Alphabet ($940; GOOGL)
7/24
(3.3)
(43.7)
21.0
11.6
1.6
Centene ($83; CNC)
7/25
(1.9)
23.3
9.6
20.5
2.2
Amgen ($174; AMGN)
7/25
(2.8)
15.1
2.1
5.1
2.5
Juniper Net. ($28; JNPR)
7/25
(6.4)
14.0
7.3
5.6
1.5
Zions Bancorp ($45; ZION)
7/25
2.3
65.9
11.8
17.7
2.5
Alaska Air ($84; ALK)
7/26
0.6
18.4
41.1
0.0
0.1
D.R. Horton ($36; DHI)
7/26
(1.9)
15.2
13.9
1.3
(1.1)
Ingersoll-Rand ($87; IR)
7/26
(3.9)
8.0
5.7
2.1
3.2
Lear ($145; LEA)
7/26
3.2
19.9
8.5
6.8
4.5
Owens Corning ($68; OC)
7/26
6.2
(7.7)
3.7
11.1
7.9
LabCorp of Amer. ($158; LH)
7/26
2.7
4.7
5.0
2.9
1.1
Facebook ($171; FB)
7/26
3.0
36.1
44.7
16.8
1.3
Lam Research ($155; LRCX)
7/26
(2.0)
72.8
51.6
2.3
1.3
Celgene ($136; CELG)
7/27
(2.5)
26.4
18.9
2.2
1.2
Southwest Air. ($55; LUV)
7/27
(4.9)
4.2
6.7
3.3
0.3
Comcast ($41; CMCSa)
7/27
0.3
23.8
9.9
8.3
1.5
EQT Midstream ($73; EQM)
7/27
0.6
0.0
11.8
(1.6)
1.9
ICON ($105; ICLR)
7/27
6.5
14.9
5.0
0.8
0.0
Mohawk Ind. ($250; MHK)
7/27
4.5
7.2
8.2
3.3
2.0
Royal Caribbean ($120; RCL)
8/1
3.1
56.9
4.0
2.4
0.2
Apple ($161; AAPL)
8/1
4.7
17.6
7.2
6.4
1.2
CDW ($63; CDW)
8/3
1.0
10.8
9.0
0.0
4.0
ON Semi. ($16; ON)
8/7
8.0
71.4
52.4
12.5
2.1
CBS ($65; CBS)
8/7
2.1
11.8
9.4
6.1
5.4

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