Earning Season and Other Surprises

Earning Season and other Surprises

Dealing with the Unexpected

A Powerful Chinese Growth Stock

It’s late October, and here in New England we are enjoying/enduring fall weather, depending on whether it’s unseasonably warm and sunny or unseasonably cold and overcast. That’s the price we pay for living in a scenic region that most people visit only during vacation season. We gripe about it, but we’re used to it.

But the changing of the seasons in New England has nothing on the stock market. Four times a year, the stock market in the U.S. changes seasons. And, like geese flying south for the winter, October brings a flock of Form 10-Q filings with the Securities and Exchange Commission, which includes the required information on the company’s sales, cash flow, earnings per share, expenses, cash on hand and other interesting numbers.

In January, we will get a slew of annual reports (Form 10-Ks) that include both Q4 information and similar data about the entire year. Unlike quarterly reports, these annual reports must be certified by an accredited auditing firm.

The factor that turns the stock market into a quarterly version of the World Cup is the earnings estimate.

One way professional analysts earn their keep is by calculating estimates of how much revenue a company should take in each quarter, and how much of that revenue should drop to the bottom line as earnings.

Earnings season is a time of ambivalence for growth investors. When one of your companies hits a home run, the resulting jump in stock price is immensely satisfying. But the converse is also true. When one of your companies misses on revenue or earnings or gives disappointing guidance for future results, the market can strip a stock like a river full of piranhas stripping a hapless capybara down to its skeleton. It’s not fun to watch.

Earnings disappointments aren’t the only reason for stocks to take a steep dive. Stocks can be hit by bad news of other kinds. Here’s the stock of Sarepta Therapeutics (SRPT), a biotechnology company that was hit by a demand from the Food and Drug Administration for more information on its potential muscular dystrophy treatment.

And here’s Petrobras (PBR), a Brazilian energy giant that fell sharply after the Brazilian election was won by Dilma Rousseff. (I’m not really clear about why Rousseff’s victory was considered such a negative event by investors. After all, PBR was already in a downtrend caused by declining oil prices. But investors were quite emphatic about it.) Here’s the chart showing yesterday’s decline in PBR.

But a big decline in an earnings month is most often caused by investors fleeing a revenue or earnings miss. Here, for instance is a chart for Twitter (TWTR), whose report yesterday revealed slower-than-expected user growth.

As always, the most critical element in growth investing isn’t what happens to your stock, or even why it happened.

The only thing that can make a real difference to your results is the plan you have in place to deal with unexpected events. If you react to big declines in your stocks with regret, that’s understandable. What’s not understandable is if you hold onto your losers while your losses grow.

If you can’t learn to control your losses, you can’t succeed as a growth investor. It’s that simple.

Cabot’s growth disciplines have lots of guidelines about selling out of losses. But the best single rule is probably to never sit with a loss of 15% or more. Ever.

Down 15, Leave the Scene!

There’s probably an investing equivalent of “He who fights and runs away, will live to fight another day.”

I’ll propose, “He who saves his capital, will have the cash to zap the bull.” It’s lame, but if it gets you to cut your losses short, it will be worth it.

About once a year, I like to throw in a pitch for my favorite form of charity giving. It’s the only charitable donation I know of where I’m certain that the recipient desperately needs it. It costs me nothing and it literally save lives.

It’s giving blood.

I know the reasons people choose not to give blood. It takes time and there’s always that needle phobia thing. But the lifesaving good donated blood can do far outweighs the cost.

I’ve given over 11 gallons of blood (not all at once, of course) and it’s a deeply satisfying thing to do.

I won’t go on about this, but the blood supply is always in need of help. If you like the idea of literally saving someone’s life, or if you envision yourself or someone you love surviving an accident or operation because a stranger gave you a life-saving gift, you’ll see why I’m so insistent.

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My stock pick today is Autohome (ATHM), a Chinese company I’ve been following for months for Cabot China & Emerging Markets Report, which I write. I had BitAuto (BITA), a Chinese competitor of Autohome, in the Report’s portfolio until earlier this month.

The intriguing thing about Autohome is that it showed up in last week’s Cabot Top Ten Trader, an advisory that features the 10 strongest stocks of the previous week. Here’s what Top Ten had to say about the stock.

“Autohome is the leading provider of automotive information to Chinese consumers, who use its websites to research both new and used automobiles. The company is only six years old, but it’s surpassed BitAuto-now number 2-by providing a more valuable user experience, and the resultant increase in traffic means Autohome is now where all the dealers and manufacturers come first to advertise! Advertising provides 81% of revenues, while dealer subscription accounts for 19%. In 2010, the Chinese automotive market surpassed the U.S. as the largest in the world, and over the past four years, Autohome’s revenues have grown at the astounding rates of 77%, 79%, 70% and 70%. That’s expected to slow down as the company’s sales have expanded north of $250 million, but it’s still reflective of the power of the Chinese market’s growth, and we think that’s the main reason this stock refuses to be kept down.”

To receive future updates on ATHM as well as additional high-potential Chinese stocks, consider taking a risk-free trial subscription to Cabot China & Emerging Markets Report.

Sincerely,

Paul Goodwin
Chief Analyst, Cabot China & Emerging Markets Report
And Editor of Cabot Wealth Advisory

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