The Best Way You Can Profit From Earnings Season

NASDAQ: NFLX | Netflix Inc. News, Ratings, and Charts

NFLX – Last week Netflix (NFLX) missed its own subscriber growth guidance by a wide margin, crashing 11% the next day. With that said, here’s the best way to profit from earnings season.

Last week Netflix (NFLX) one of Wall Street’s highest-flying darlings missed its own subscriber growth guidance by a wide margin and proceeded to crash 11% the next day.

Such is the nature of earnings season, when companies can soar or crash violently, often by double-digit percentage amounts. While some investors fear such volatility (and even sit out these months), earnings season takes up 8 months of the year and so smart investors need to know three simple rules to not just deal with such short-term turbulence, but also how to profit from it.

Rule 1: OverpriceD Companies Are Most Likely To Crash While Deeply Undervalued Ones Are Coiled Springs Pricing In VERY Low Expectations 

FAST graphs price correlations 2019

Just last week I pointed out two companies that had 50+% upside potential to fair value, one of which was Haliburton. That was based on a 10 metric analysis that estimated the company was 65% below its historical fair value. When Halliburton reported earnings just a few days later it soared 9% by beating super low expectations and announcing modest cost-cutting.

Was this a rather lucky “call”? You bet. I didn’t even know when the company was reporting earnings when I recommended the company, but my point is that Wall Street is famous for focusing on short-term pain rather than long-term gains. For example, Halliburton’s stock is being crushed (down 70% from it’s all-time high) due to recession worries (no recession is likely for at least 18 months) and 2019’s 19% drop in EBITDA created by oil companies putting off drilling due to the 40% late 2018 oil crash. Well, oil prices have since recovered and analysts now expect 14% EBITDA growth in 2020 and 15% in 2021. Yet the stock has continued its downward momentum becoming an ever more tightly coiled spring.

Halliburton is the second biggest oil service giant in the world and so buying it at the bottom of its business cycle is just common sense. That’s how you can enjoy almost double-digit single gains from a company merely “sucking less” than the market expected.

Rule 2: Have a Watchlist of Quality Companies And Be Ready to Take Advantage of Short-Term “Carnage” That is Sometimes Easy to Predict

Even the famous dividend aristocrats and kings, companies that have hiked payouts for 25+ and 50+ straight years, respectively, are not immune from short-term mayhem, usually during earnings season.

The Worst Single Day Declines for Dividend Aristocrats — 2009 Through April 2019

dividend aristocrats 2009 to april 2019

Over the past decade, all the aristocrats have fallen significantly in a single day, with many falling double-digits. This is because investors forget that no company can go a quarter-century or longer of growing its dividend without running into trouble. All companies must adapt to shifting business conditions (management gets paid millions to do just that) which means periodic business restructurings.

3M (MMM), Lowe’s (LOW), Walgreens (WBA), are all aristocrats or kings that crashed 13% this year after missing earnings expectations. I bought all three on those crash days. Why? Because I’m a student of history and know that such declines unless they begin from excessive valuations, are almost always overblown knee-jerk reactions.

Dividend Aristocrat 12-Month Forward Returns Following 10+% Single Day Crashes

worst stock market declines

Over the past 10 years, the median 12 month gain from a 10+% single-day crash is 32%, the average is 33%. Investing is always about probabilities because no one knows the future. But betting that the bluest of blue chips will spring back from temporary setbacks (and historically undervalued levels) is a low-risk/high probability strategy that can result in annualized total returns that match Warren Buffett in his best years. All from boring old dividend blue chips, as long as you have them on your watchlist and are ready to “be greedy when others are fearful”.

Or here’s another example, also from my retirement portfolio, where I keep 100% of my life savings.

Broadcom Total Returns Since January 2010

broadcom total returns since january 2010

Ahead of its last earnings release I fully expected Broadcom to crash. Broadcom is my second favorite chip maker behind Texas Instruments, thanks to a management team that has mastered accretive M&A (CEO Hock Tan is the Buffett of chip makers) and delivered 36% CAGR total returns over the past 8.5 years.

Broadcom is famous for volatility, with most big acquisitions bringing a big short-term decline (CA Tech deal crashed the stock 14% the day it was announced). Well between the end of the year, when management gave solid guidance of potentially 20% growth in FCF/share (and the dividend) to Q1 the trade deal blew up and Huawei (where AVGO gets 4% of its revenue) was blacklisted by the US government.

So only a fool would have expected the company NOT to reduce guidance, which they did. However, management’s new guidance was still for double-digit FCF/share growth (implying a double-digit dividend hike coming per the 50% FCF payout ratio policy). That’s in a year when most chipmakers are expecting a 7% to 14% FCF/share decline.  The stock opened down 10% that day (I picked up my initial position at the open at $258).

Today Broadcom is at $300 and I’m sitting on a nice 16% capital gain plus a safe and rapidly growing 4% yield on cost. That’s a 20% gain within a matter of weeks, thanks to not overreacting to news that everyone should have realized was coming.

Whenever the company announces a new acquisition (or the media reports on rumors of one) the stock crashes and those who know the company well are able to pick up bargain shares. This is what I recommended for readers during the $23 billion Symantec drama, which so far hasn’t resulted in any deal being made official.

By the way, based on 10 historical metrics (like dividend yield, PE, price to cash flow, P/EBITDA, EV/EBITDA, etc) Broadcom’s historical fair value is $366. Even at $300, the company is a great investment, likely to deliver 15% CAGR total returns over the next five years. Whenever it drops, either on an “earnings miss” or M&A speculation, is a great long-term buying opportunity for anyone comfortable with the company’s M&A happy growth strategy.

Rule 3: Patiently Acquire Quality Companies at Beaten Down Levels Because These Are the Most Likely to Pop During Earnings Beats

Over the last 50 years, the single best industry to own was…tobacco. That’s either on an absolute basis or a risk-adjusted one. The same long steady decline in smoking rates that has everyone predicting the death of big tobacco also creates great buying opportunities for smart investors.

Price correlated fundamentals chart

Back in mid-2016, when 10-year yields hit their post-Brexit vote low of 1.36%, Philip Morris International hit a stratospheric 26.5 PE, vs a 10-year average of 16.4. It doesn’t take a psychic to know that, barring a massive acceleration of the company’s 6% historical EPS growth rate, the stock price would crash (mean revert) to its historical PE.

Low and behold that’s what happened. But as usual, on Wall Street, downward momentum went too far and PM ended up overshooting to the downside. At the end of 2018 it was trading at just 13.6 times earnings, and just two months ago, a modest PE of 14. PM just reported earnings, beating low expectations and modestly boosting 2019 guidance (by 1%).

The stock rocketed 8% higher that day (and all tobacco blue chips rallied 3% to 7% as well). Anyone who bought it just two months ago, not even close to the 52-week low, under the “wonderful company at a fair price” Buffett rule, would have locked in a safe and steadily growing 6% yield AND now be sitting on a 13.5% total return after just a few weeks. That’s a 143% annualized total return, from a boring and low-risk defensive (recession-resistant) high-yield stock.

This is why I’m a dividend investor. Because I like getting paid handsomely to make low-risk/high probability decisions, and then waiting for the market to merely do what it normally does, which is pay historical fair value for quality companies.

Bottom Line: Earnings Season Volatility Is Unavoidable…But Smart Investors Can Profit From It By Making “Consistently Not Stupid” Investing Decisions 

Numerous market studies show that timing the market doesn’t work, which is why I never recommend trying to “play” earnings season or sit it out. In the short-term, the market can be infinitely stupid, often ignoring great fundamentals for many years, resulting in quality companies becoming coiled springs. Other times Wall Street can overreact to a bad quarter or corporate restructuring resulting in even famous dividend aristocrats or kings falling off a cliff in classic knee-jerk overreactions.

There are always risks to owning any stock (these are “risk assets” after all), which means bears can always make a plausible case for why the wheels will fall off the bus. But the point of having watchlists of quality companies is so that during the famous volatility of earnings season, smart long-term investors can be ready to pounce on low-risk/high probability moves such as buying double-digit declines.

Will all such investments pay off? Of course not. No less than Peter Lynch, one of the greatest investors of all time said: “in this business if you’re good, you’re right six times out of ten.” The trick is to use good risk management so that your winners swamp any losers you may have resulting in great returns over time.

Any company can ultimately fail, but that’s why it’s best to use ETFs and 20 to 60 individual stocks, so you have the time to check in on blue chips on an annual basis. Such active management isn’t for everyone (or even most people, which is why ETFs are so popular). But rest assured that if you’re seeking alpha, the time and effort you put into learning how to determine which companies are worth owning, and when to buy them (fair value or better) is well worth it in the end.


NFLX shares were trading at $306.89 per share on Tuesday afternoon, down $3.73 (-1.20%). Year-to-date, NFLX has gained 14.66%, versus a 21.13% rise in the benchmark S&P 500 index during the same period.


This article is brought to you courtesy of Stock News.


About the Author: Adam Galas


Adam has spent years as a writer for The Motley Fool, Simply Safe Dividends, Seeking Alpha, and Dividend Sensei. His goal is to help people learn how to harness the power of dividend growth investing. Learn more about Adam’s background, along with links to his most recent articles. More...


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