When analysts miss the mark, you can pick up bargain stocks
Even when a stock does well, analysts can punish it, says a Canadian analyst, but that means you may be able to buy it at a tidy discount.
“The stock market today is a very scary place.”
We all know the stock market has been going up for the past two years. Generally.
But it still subject to sharp, jarring corrections. And each time, they raise the spectre of the bear market that may be lurking round the corner.
But there are also the day-to-day frights we’re subjected to by the people who regularly ride herd on the markets. Analysts.
That’s the beef of Mr. T.E. Gardiner, the author of our opening quote. This former Bell Canada employee is a retired investor in Ottawa.
“Why do investors give analysts so much power?” he asks in Investor's Digest of Canada.
The specific problem he wants to tackle is that of “analysts’ expectations.” A group of analysts covering a stock decide what its next quarterly report should say.
If it doesn’t live up to their expectations, down go the shares.
Is this fair? Does it give a true picture of a company’s strengths and weaknesses? And what should investors do in a situation like this?
Mr. Gardiner begins four well-known Canadian stocks that got caught in the trap of analyst’s expectations.
We’ll look at those stocks and update their progress since the original article was written.
Profits up, shares down
The first is Mr. Gardiner’s old company, BCE Inc. (TSX-BCE). In its most recent quarterly call, it confidently reported a 25 per cent increase in profits — and saw its share price drop one per cent. It had missed earnings-per-share estimates by about a penny.
This was scarcely a devastating drop. Sales were up solidly, and the share price has held its ground. It has hovered in a narrow trading range for the past month and sits at $35.34 today. It continues to yield a brisk 5.6 per cent on its $1.97 dividend.
A ruder fate awaited Teck Resources (TSX-TCK.B). It announced a 76 per cent increase in profits and was rewarded with an eight per cent fall in its share price.
Earnings attributable to shareholders, however, were down from the year before thanks to a single after-tax charge related to debt. Teck, which reached a high of $64.82 in January, has not recovered the ground lost, although there is more than one reason for that. A strike, shipping delays due to bad weather and lower production estimates are all blamed.
Teck trades at $52.75 and yields 1.1 per cent on the $0.60 dividend.
The Street wants more
Magna International (TSX-MG.A), which has been making up a lot of ground as the post-Frank Stronach era begins, lost some of it when it reported. Although sales increased by 22 per cent and earnings jumped from a loss last year to $0.88 this year, the shares thudded by 9 per cent.
The “Street” wanted more. It had estimated earnings at $1.02 a share. From a $61.65 high in January, the stock is down to $47.19 today. It yields 2.1 per cent on its $0.97 dividend. Most of the analysts that cover it consider it a “strong buy” or “buy.” They weren’t as kind in February.
Analysts have worried about Rogers Communications (TSX-RCI.B) and its ability to compete in the wireless wars. When it reported a five per cent profit increase, this was roughly in line with analysts’ expectations. But wireless sales did not gain enough and the shares fell by two per cent.
Though nowhere near their autumn high, the shares have moved back up of late and sit at $35.65. They yield 4 per cent on the $1.42 dividend.
The guys who are wrong
“Even some of the big banks occasionally see price drops after reporting profit increases,” notes Mr. Gardiner.
If missing expectations by a narrow margin is enough to cause shares to drop “the market is just too jittery for me,” adds the author. “I’m not going to fault the analysts for being off by one per cent, but I’m not going to panic and sell off the company, either.”
What’s more, if the reported results miss expectations by a large amount, “I’m inclined to blame the guys who were wrong, not the companies they were wrong about.”
In the event, Mr. Gardiner suspects that most of the sell-off was due not to nervous individual investors, but to institutional investors whose managing performances are judged “by the numbers.”
Either way, this author is worried that the “herd mentality” is even more prevalent these days.
Pick up a discount
What should investors do? Short-selling a stock just before it reports its results would be one bold move, the author admits. But that’s just too risky for his taste.
You could also take out options on the stocks, although you would have to count on a drop in price of five per cent or more, he states. Anything less would probably be eaten up in transaction costs. But there’s a better way, he tells his Investor's Digest of Canada readers.
“A safer way to utilize this information is to apply it to a company you’re planning to buy anyway. If you’ve found a company you like, don’t buy it right away. Wait until just after earnings are announced and pick it up at a discount.”
The exaggerated expectations of analysts did not cost the stocks above all of their earlier share price gains. And in most cases, a good deal of the damage done by the analysts has been repaired.
But that damage made the shares available at a more attractive price.
Mr. Gardiner hopes that we will begin to pay less attention to analysts’ expectations in the future.
But in the meantime, he says, pick good, solid dividend paying stocks and buy ‘em when they’re down.
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