The stock market never ceases to amaze me. You'll frequently
hear things like "the market has a short memory" or "if we forget
the past, we are doomed to repeat it;" but that's not the way
things work at all.
In fact, the markets are extremely efficient at finding value for
the facts that are known
at that moment in time and risks are always factored in
It's not that markets forget; they are simply looking forward, as
we all should, towards the future. Think about where you'd be in
life or how stagnant your evolution would be if you dwelled in the
past all of the time.
The problem is that many retail investors forget the basis of what
drives the market (earnings) and get caught up in the minutiae of
the headlines, which are bound to confuse.
The market is comprised of people who read the news just like you
and I. To look into the mind of the markets, you must go beyond the
hype headlines, dig into analyst reports, earnings trends and, most
importantly, pay attention to what the smart money is doing!
Instead of shutting down and fearing risk, we need to understand
how to overcome and profit from the overblown risks I'm about to
Just as Gordon Gekko said in the movie Wall Street, "One of the
best tools you can have is information;" the real question is,
"what information do you really need?"
The Risks Have Brought Down Expectations
Europe's woes are already factored in to an extent. I don't think
anyone believes that everything is going to be hunky dory across
the pond, and I know that many have even accounted for a Greek
exit. What we will have are minor bumps on a long road to recovery.
The powers-that-be will do what it takes to add stability.
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China's growth is no doubt waning and, while some may question the
quality of their economic data, most believe that they can sustain
roughly 6-7% growth for the years to come, which is enough to keep
things moving forward. Furthermore, many companies and commodities
have already gone through substantial corrections in anticipation
for their decline; Chinese markets are already close to 3 year
Did I mention that a slowdown in China has dramatically reduced the
prices for commodities like steel and cotton, as well as rare earth
metals that are used to make things like the iPhone, batteries and
other electronic devices?
To get the real story, I turn to commentary from companies like
Yum! Brands (YUM), who just reported a 23% jump in profits driven
in large part by growth in China!
A U.S. recession is another possible scenario that the market is
pricing in (albeit with low probability). The good news is that
recessions don't just "happen." They evolve slowly and their
progression will materialize in economic data.
While the U.S. economy isn't growing by leaps and bounds, it is
stable and most likely won't see any catastrophic downside
surprises barring a natural disaster of some sort, so this risk is
somewhat predictable and slow.
The biggest risk I see in the near future would be us going over
the "fiscal cliff" because some believe it would occur quickly.
While fears are valid on some levels, it would be extremely foolish
for either political party to purposely doom the American people.
Furthermore, the solutions are technically extremely easy. Even if
January 1st comes and goes, there is still actually time to fix the
problem. Even The Treasury Department has power to adjust the
withholding tax; they could decide to keep last year's rates to
prevent consumer stress from the tax increases. Washington could
also lower tax rates retroactively at any time in 2013 when the
Bush tax cuts end.
None of this has gone unnoticed. Goldman Sachs recently issued a
analyst note addressing these issues. While they acknowledge the
risks I outlined, they also expect the S&P 500 to reach 1575
(+10% from current levels) by the end of 2013.
Why Is All This Negativity Good?
Remember that all these risks are known and the market has figured
them into prices already. It would take a major change in the
current state of things to completely derail markets, which I don't
think will be the case for the Q3 earnings season.
In fact, these risks might make things even better! The best market
scenario is one where expectations are low and positive surprises
abound. Think about it, would you rather have someone under-promise
and over-deliver, or the opposite?
In Q2, expectations were for flat growth, but actual results showed
a 4.4% increase in profits. It was an average quarter where roughly
65% of companies beat earnings expectations with only an average
surprise of about 2.56%. These results were barely average and yet
the S&P 500 gained 16%!
The one thing I didn't mention was the extremely LOW expectation
for this earnings season. In fact, analysts are expecting Q3
earnings to come in 3%
than last year. This effectively lowers the high jump bar from 7
feet to about 3 feet and may just make this one of the better
earnings seasons we have seen.
Analysts hold the key to earnings success, and understanding their
behavior can point us into the most probable trades. Don't be
afraid to stay consistent, stay invested and keep your discipline.
It's often best to put money to work at a time when fear is
elevated and expectations are extremely low, like now. Buying
quality stocks ahead of earnings can be one of the most profitable
strategies if done correctly.
Where Do You Find These Special Stocks?
Zacks has a method for predicting positive earnings surprises, and
I expect a flurry of them in the coming days and weeks. I can't
share all the details of our formula with you, but it relies on two
under-used criteria coming from the brokerage analyst community.
These two factors are then layered on top of other time-tested
elements such as the Zacks Rank and Zacks Industry Rank to find
only the best stocks in the best industries.
Today, you are welcome to join our restricted
community and get in on strong potential profits during this and
every earnings season. But you must join now and be ready to move
quickly on our fast-paced buy/sell recommendations. Please note
that we can't let too many share this action, and the door must
close to new investors no later than this Saturday, October 13.
Learn about Zacks Whisper Trader now>>
Jared Levy is a Zacks Rank stock strategist with a broad
national following and special expertise in earnings surprises. He
provides private recommendations and commentary for the
Zacks Whisper Trader
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