Facebook (FB) will be reporting its latest quarterly results next Wednesday, and you can bet that people will be paying attention. When your company has a market cap of nearly $322 billion, a float of 2.2 billion shares, coverage from 49 analysts and over one billion active users per DAY (!), people tend to pay attention. And when a company that depends on advertising for over 95% of its revenue can claim to generate over 6% of the total digital traffic of the internet, they’d better.
Earnings reports are always going to bring tension among holders of Facebook stock about what to do. The market expects Facebook to report earnings of 62 cents per share on revenue of $5.25 billion, and there are always a few analysts who grab headlines by predicting that this quarter will be the one when Facebook misses its numbers. Even more important will be what the company says about the next quarter or two.
So what’s the right thing to do? As always, the advice depends on the answers to several questions:
1) Do you have a profit, a loss or is your position flat?
2) Are you a short-term trader or a long-term holder?
3) What’s your level of risk tolerance?
The rule for stock investing in general is to pay attention to your risk tolerance when important events approach. If you have a big appetite for risk (either because your position is small, your investment horizon is long or you have a big profit cushion), you can just sit tight and wait for the revenue and earnings numbers to drop.
In the case of Facebook, the company’s scale, heavy analyst coverage and long history of beating estimates makes it a somewhat less risky proposition than for some small-cap butterfly.
If you’re risk averse, you can lower your exposure ahead of earnings, usually by taking a portion of your position off the table to cut the risk of incurring further losses.
If you don’t own Facebook stock, and are thinking about initiating a position ahead of earnings, I refer back to your risk tolerance. Your moment of greatest risk exposure is immediately after you buy, so it’s a little like betting on a coin flip. If you can sharp-shoot a buy on a pullback like the April 13 dip below 107, you can take a bit of the edge off your risk.
I asked Cabot’s options guru, Jacob Mintz (Chief Analyst of Cabot Options Trader and Cabot Options Trader Pro) for a simple options trading approach to controlling risk on a buy of Facebook stock this close to earnings and he said:
The cheapest way investors can hedge themselves if they want to buy 100 shares of stock would be to buy May 105 Puts for around $3.25. While this “insurance” would cost them $325, if the stock dropped below 105, they would have the right to sell their stock at 105 if the stock really fell hard. They’d still have unlimited upside in the stock holding, but with a small insurance policy in case the stock really fell.
Personally—which is to say from the perspective of a pure growth investor—I think it’s useful to look at the longer-term chart of FB for guidance. Here’s the stock’s weekly chart that goes back to May 2013. It shows the monster-volume run-up that began in July 2013 and the various pullbacks that have punctuated the stock’s longer-term rally that has lasted since then.
No stock is a sure thing, and I think it’s a mistake to say, “I’ll hold Facebook stock no matter what, because I’m a long-term investor.” Apple (AAPL) and other “invincible” stocks of the past are always happy to teach a lesson about abandoning your loss limits and trusting to time.
But for now, Facebook stock looks good enough—as long as you have a strategy to avoid the maximum risk that comes with an earnings report.
Tim’s comment: I might say the same, but I doubt that I’m as angry as Lewis Black, who has made a career out of portraying an angry man. Still, the quote does illuminate the fact that I (and I suppose Lewis) can be quite happy with my life while being rather peeved at the institutions that purport to lead us citizens.
Paul’s comment: The state of American politics is such that anyone who isn’t angry probably isn’t paying attention. But the thing that makes me angriest is politicians who preach that those who don’t agree with them aren’t real Americans. The idea of America that I grew up with transcended political differences and made being an American more important than being a Republican or a Democrat. I fear that that’s no longer the case, and I’m not happy about it.
Chief Analyst, Cabot Emerging Markets Report