There are a few things that can rock the stock market positively or negatively: a major world event, a major company gets caught up in a scandal, election results, or company earnings.
Four times a year, publicly traded companies announce their quarterly earnings results. Some companies (like Apple) are such sector and market giants that their earnings will affect the whole sector – and sometimes entire market.
Earnings season definitely adds an element of uncertainty. If a stock you’re interested in buying is scheduled to report its earnings, buying it beforehand could work for or against you in a big way. Suddenly it feels like you’re placing a bet instead of making an investment.
It’s great if it gaps up in price. Your portfolio will glow thanks to this stock’s incredible move. You’re an amazing investor and have become unstoppable at picking stocks. It’s in your destiny to be the sage investment advisor among your peers.
If the stock gaps down, the feeling is the complete opposite. You’ll be spending your time looking into why the company had good earnings, yet it still came down hard in price. What horrible luck were you just cursed with?
Financial analysts are always trying to predict the earnings results of major companies. What happens then is that traders start to take their positions and buy shares in anticipation of the price going up in a big way. When the actual earnings report comes out, if the predictions were correct, the price usually goes up by a lot because other investors who were waiting on the sidelines are now acting on the correct information. If the predictions are off by a lot, it can send the share price down – even if the company had a better quarterly earnings report than the analysts predicted.
This doesn’t seem to make sense until you start thinking about the psychology behind pricing. There is one thing you should never lose sight of: Stocks move in price based on investors’ perceptions. Analyst predictions are important because they shape people’s perceptions on what they think is a fair price for shares. So, even if the earnings are predicted to be weak earnings, investors can decide on what is a fair share price based on those predictions. People like predictability, even if the information isn’t always good. We don’t like unpredictability because it increases uncertainty. The root of risk lies in uncertainty.
If you’re planning on buying a stock that has yet to report its quarterly earnings, you can either wait until after its earnings report comes out, or just buy a fewer number of shares to lower your exposure to risk. Sometimes, after an earnings report, the share price stays the same. If it’s higher or lower in price by a significant amount, then I recommend waiting until it settles down before buying more shares. Any big move will trigger a lot of action before it gets quiet again. The trading volume will eventually go down and the daily price ranges will go back to being average. Refer to any of my lessons on price consolidations under the category, “How I Find and Pick Stocks.”
If you own a stock for a while, you’ll know that the big ups and downs from earnings come and go like the seasons of the year – it does happen four times a year, after all! You need to recognize that you buy a stock for more than just its quarterly reports. You invested in the company because you like its product or service, its sector, its dividend, and hopefully, the low price you got it at (thanks to all the techniques I’ve been trying to teach you!).