What to Expect Next Earnings Reporting Season

— “The Financial World According to Inya” Column,
by Inya Ivkovic, MA

Price declines early this year gave us an opportunity to accumulate holdings at a low price. For those with good nose for quality stocks, it was a way of building a portfolio with the risk vs. reward balance potentially tilted in their favor. That is how it can be on the buy side’s front line. These are the best of times when investors can buy companies and even entire sectors at seriously depressed prices. Usually, it is also a happy time when the buy side rules.

But if prices remain depressed for too long, the excitement is bound to wear off after a while. Particularly after the position sort of gets maxed out, like a credit card, at which point it would be irresponsible to keep on loading up on the stock, regardless of how cheap it might be, because the last thing an investor needs in volatile markets is a down and beaten stock that is all alone and has no one to play with. But sometimes that is what happens — a fundamentally sound stock can remain out of love for two or three years, sometimes more.

There are two roads to take at this point. The investor holding a dead whale could decide to stick by his stock-pick and, when it eventually doubles or triples in price, which is definitely a possibility if the company has been truly fundamentally sound, the investor would come off as the “brainiac” who had insight and instinct no one else did. But there is also a 50/50 chance the stock will remain the dead whale and all the investor will have are chunks of its portfolio declining, because he was too stubborn to admit he made wrong decisions.

As the market went through its extreme swings the last year and a half or so, many money managers found themselves in a similar position; that is, quite a bit offside. They ended up there because there were quite a few conservative and counter-cyclical companies that endured the market crash and the ensuing mayhem reasonably well, but when the dash into equities started back in March of this year, those same stocks appeared never to have gotten on the bandwagon.

Soon, the third-quarter earning reporting season will commence. The published data will be a goldmine of information. What we are very likely to see will be the companies and funds that led the pack last year coming in among the last this quarter. It is possible that there will be exceptions to this forecast; that is, stocks and funds that either did well or badly during both comparable periods. However, such non-events will be far and few between. This is in part due to the fact that those individual investors and money managers who played the down-market well would have needed to completely revamp their portfolios in the second quarter just to keep up with the previous downers that will likely be leading the herd back up this quarter. Of course, this is not an easy feat at the best of times, let alone in the current markets.

What else will this quarterly earnings season tell us? For investors holding mutual funds, it will be almost like confession time. Mutual fund investors will finally be able to learn how their managers performed in the medium term and how many promises they kept from the sales and marketing materials they have sent you. This time around, perhaps more than ever, investors will have the opportunity to see if the emperors are wearing new clothes, or any, for that matter.