Monday, January 16, 2012

Playing the Earnings Game

As we enter the earnings reporting season for the fourth quarter of 2011, it's useful to recall that American companies have become somewhat famous for trying to lower expectations about their earnings. The Web site Thestreet.com has looked at all the companies that offered such guidance in the weeks leading up to earnings season, and found that the ratio of negative-to-positive news averaged 2.3 to 1. More than twice as many companies try to damp down expectations before reporting earnings than those who present good news.

For the current earnings period, companies are acting even more pessimistic than the historical norm. According to the institutional broker-dealer Strategas Research Partners, negative pre-announcements for the just-concluded fourth quarter are outnumbering positive ones by a whopping 3-to-1 margin.

If that sounds like bad news, it’s not. That skewed ratio makes it likely that a higher percentage of stocks will beat expectations, which usually gets a stock an earnings bump in the market. As Strategas wrote in its report on the current quarter, “The ratio of negative-to positive earnings preannouncements has been a reliable contrarian indicator of market performance during earnings season throughout the years.”

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