Occurring in January, April, July, and October, earnings season reflects one of the few times of the year when investors can take a peek inside and gauge the interim performance of companies. They reveal key information like sales, net income, and earnings per share (EPS). Good news from a firm often leads to a higher stock market open while bad news can send its stock tumbling.
4 ways to boost your trading using earnings reports
Trading earnings is generally considered risky as not only do the numbers have to be predicted, but so does the level of expectations. Inflated expectations can trample quality reports while low expectations may lead to struggling companies see their stock catapult. Generally announced outside of trading hours to avoid interrupting the trading day, reports are released either prior to market opening or after trading has halted. With thousands of companies to choose from, it is essential that investors narrow their universe to a few key companies and focus on those. Keep it simple.
1. Do your homework and analyze the estimates
It is the job of market analysts to read company reports and meet with management. This helps them make a consensus on whether earnings will rise or take a dip. The focus of the overall market isn’t necessarily on the announcement itself, but on how the figures stack up to the analysts’ expectations. As these can be revised leading up to the actual announcement date, it is essential that investors keep themselves updated as well. This means checking the overall state of the market and the company’s historical data for predicted vs. actual earnings.
2. Whatever the trading strategy, stick to it
Whether you are a day trader, swing trader or scalp trader – you should always have a clear trading strategy and stay on track. This rules-based mentality can help investors remove the emotional influences that can hinder trading. Earnings surprises can impact stock prices in either direction – this is exactly why risk management plays a crucial part of earnings season. Tools like stop losses and limit orders can place a buffer in limiting extreme movements.
3. Monitor the market
If a significant rise in price is expected, investors can benefit from either buying call options or products offering leveraged products, like Leverage Shares ETPs. In this manner, investors have increased exposure without having to shell out larger sums to buy additional amounts of the underlying security. For this reason, it is paramount that traders invest time to do their research and monitor the market. While earnings season is typically thought of in the perspective of its meaning for a single security, the season as a whole can highlight macroeconomic trends.
4. Analyze the results
Following your trading session, regardless of the outcome, it is imperative that investors review their results. What was the plan going into the trade, what was the outcome, what needs to be improved? It goes without saying that results are not always black and white. The relationship between earnings results and the following price reaction is not always straightforward. Earnings beats do not always translate into price gains just as missed do not always lead to price declines (evident in the chart below).
With all this in mind, it’s usually best to differentiate between a trade and an investment. While trading the earnings can prove to be lucrative, it’s not without additional risks. A solid performance during a quarter could be indicative of future profits to come. It could also be the last stride for a struggling company before losing steam. The investor ultimately needs to decide whether the upside is worthy of the risk.