Earnings season should bring upside surprises

THIRD quarter earnings season is already well underway in the US with Alcoa last week reporting better-than-expected figures. And with the latest earnings reports being readied for the laminator in Europe this week, many analysts are anticipating a run of consensus-beating results. In light of very low company guidance, contracts for difference (CFD) traders could stand to benefit from carefully targeting upside surprises.

The case for a lacklustre set of results stems from the view that the year’s first-half momentum cannot be maintained. IHS Global Insight’s Howard Archer expects sluggish investment limited by “appreciable excess capacity, relatively limited final demand, and serious concerns and uncertainties among companies over the longer-term strength of the recovery,” he says.

But despite official guidance staying on the low side, many analysts are in fact revising their views upwards.

In a recent note, RBS’s Graham Bishop and Ian Richards predict that earnings will follow the same pattern as in previous quarters, delivering upside surprises due to having been overly restrained by company guidance. Moreover, while beaten expectations are then factored into revisions of past data, they are not fully reflected in forecasts going forwards. Because results are measured against previous quarters or the equivalent quarter last year, Bishop says that this is, in effect, “an indirect downgrade, which doesn’t make any sense”.

Aside from this technical reason for betting on stocks with unduly low forecasts, the combination of at least some positive economic growth and cost-savings made during the recession should prop up profits – contrary to overall third quarter forecasts in the US, for example, which aggregate to around a 3 per cent quarter-on-quarter decline in earnings per share (aggregate data in the UK is harder to come by because not all firms report quarterly).

In addition to watching the bottom line, it is worth keeping an eye on some additional indicators. ETX Capital’s Manoj Ladwa says traders should watch for “signs of costs continuing to come down, revenues going up – not just inventory restocking but demand – and the question of what companies are going to do with their cash.” In particular, it is worth looking out for any intentions regarding acquisitions, which could move share prices around, particularly in sectors where consolidation is anticipated such as mining and pharmaceuticals.

Caution is warranted because equities do not always move in direct relation to earnings news – particularly with so many macro-economic concerns still plaguing investors. But for careful traders, earnings season should provide fertile ground for profit-seeking

TIMELINE | UK THIRD QUARTER EARNINGS.

Today
Punch Taverns, Flybe

Thursday 14 October
WH Smith, Playtech

Friday 16 October
Avanti Communications Group, John Lewis

Tuesday 19 October
Whitbread

Wednesday 20 October
Home Retail Group

Thursday 21 October
Debenhams, GlaxoSmithKline

Friday 22 October
BSkyB, Clinton Cards

Thursday 28 October
AstraZeneca, Royal Dutch Shell

Friday 29 October
Shire

Tuesday 2 November
BP, Imperial Tobacco