Fundamentals To Focus On
There's a reason why a stock undergoes a major price break, and very often it’s the onset of lower prices to come. In almost all cases, something is fundamentally wrong with the business or industry of the company.
It is unreasonable for an investor to settle for a poor track record irrespective of the size and reputation of a company.
When a company reports better quarterly results than expected, analysts must revisit and modify their earnings estimates upward. This boosts the attention paid to a stock.
Stocks move for two main reasons: expectation and surprise.
Try to look out for companies that are knocking earnings estimates. This is because earnings surprises have a persistent effect. One way to find such candidates is to check if reported earnings in the last few quarters were better than expected.
Mark doesn't disqualify a stock as a buy prospect if it lacks upward earnings revisions. However, a large downward estimate is clearly a red flag.
As a stock’s price rises quickly because of the possibilities of improving fundamentals, players start buying the stock simply based on a strong price trend and price velocity. Some of these people buy stocks with strong price action irrespective of the fundamentals. They believe that the stock will continue to rise over the short to intermediate-term because of momentum.
At a point, when the growth becomes obvious and everybody knows about it, the stock is termed a growth stock. The smart investors who got in early have generated big profits while the inexperienced ones now step in to buy after reading about it. However, the velocity slows down at this stage. This is followed by the loss of EPS momentum which results in negative earnings surprise and downward revisions. All this puts the stock price under tremendous pressure. This earnings maturation cycle happens repeatedly over time. You have to understand where in the cycle you are and take advantage of its effect.
Earnings Maturation Cycle
Successful companies generally report earnings increases of 30-40% or more during their super performance stage.
It’s not unusual for new market leaders to show triple-digit sales growth in the most recent quarters or maybe even years.
In short, institutions like to see:
- Earnings surprises
- Speeding EPS and incomes
- Broadening margins
- EPS breakout
- Strong annual change in EPS
- Indications that momentum will continue