Tomorrow, consumer electronics giant Apple (AAPL) will report its third quarter earnings. Consensus estimates are for $1.22 per share on revenue of $37.93 billion, up from earnings of $1.07 and revenue of $35.52 billion a year ago. The question, though, is how much the actual numbers they report matter in terms of the short term effects on the stock price.
The obvious answer is that they matter a great deal. Any company has worth only in terms of the money it makes or has the potential to make. Valuation is based on multiples of earnings and, particularly now that Apple have joined the ranks of those that distribute some of that money to shareholders as a dividend, that is the biggest influence on the share price. In the long term that may well be true, but there are other things that will have a bigger influence on the performance of AAPL over the next couple of months.
First and foremost, as I have said on other occasions, expectations matter. When it comes to the price of a stock, perception is reality. Back in the fall of 2012, Apple was a company that could do no wrong. Following the launch of the iPhone they had piled success on success and consistently beaten even inflated expectations of growth.
At that time I pointed out that that had to come to an end and, as we all now know, it did in the form of a spectacular 45 percent tumble in the stock price. The problem then was more one of expectations than execution. Apple remained an incredibly successful company, but growth stalled and the stock was punished.
Although the stock is effectively close to the same level now, we are not at the same point. At that time earnings had increased massively from the previous year and the relatively low forward EPS of around 9 was based on the fact that analysts’ estimates were assuming that that could continue. Now, expectations for the next four quarters are more reasonable and the current forward P/E of 13.57, although obviously higher, actually looks to me to be cheap. Those estimates reflect much more reasonable growth and could quite easily be beaten.
Given that, regardless of what the look back to the third quarter’s earnings tell us, the biggest influence on Apple’s stock price this week is likely to be forward, not backward looking observations. Guidance for the next few quarters and, even more importantly, any hints or actual news regarding new products, will be what drives the reaction.
The proximity to that well known previous high also creates its own dynamic and will have an influence on the reaction to the numbers. After the 7:1 split earlier this year, $100 equates to the previous high of $700. The fact that these are nice round numbers only serves to make them even more influential, but even without that the all time high of such a widely followed stock will obviously be a significant point of resistance.
The volatility following an earnings announcement will give an opportunity for traders to either challenge that level or back off from it. Which they do probably has more to do with which they want to do now than with what the earnings figures may be.
When all of this is taken together, it seems that as is often the case, smart traders and investors will be paying more attention to the market reaction to the earnings than the earnings themselves. Certainly, what Apple actually did last quarter is far less important than any talk of new products or innovations, but even if earnings, guidance and product development plans are all as expected, I expect there will be some reaction. What that reaction is will give us a snapshot of how the market feels about the stock and will be the best guide of what to expect going forward.
This could well result in one of those situations that are so often puzzling to market observers. We could see a slight beat on top and bottom lines and a drop in the stock, or conversely a slight miss could result in strength. The actual numbers themselves will be analyzed to death of course, but for the short term performance of the stock they will not matter. The driver of that will be overall sentiment, and for that reason it is another situation where you should be looking to trade the reaction, not the news.