FYI | Aug 22 2007
We still have a little over a week to go in this year’s August results season and that means the bulk of companies reporting still lies ahead of us.
A quick look at the calendar shows we are still awaiting the reports by Aristocrat (ALL), Fairfax Media (FXJ), Oxiana (OXR), Tabcorp (TAH), Insurance Australia Group (IAG), PaperlinX (PPX) and many, many others.
Also, companies that reported today, such as BHP Billiton (BHP), Brambles (BXB) and CSL (CSL), are not included in this analysis.
Apart from providing investors, and securities analysts, with a reality check, the results season also provides an ideal platform for momentum traders. Each year quantitative analysts at local brokerages survey the released results for positive and negative surprises. This because they know from past experiences that companies that managed to surprise in a positive sense will attract positive momentum while those that miserably fail often see their share price underperform.
This element of surprise seems quite important as some analyses over the past few years have concluded that the effect from a result surprise can last up to three months after the event. This means that a company that manages to knock the analysts off their chairs with a positive earnings surprise should see its share price outperform the broader market for at least the next two months.
This doesn’t necessarily mean the share price will embark on a continuous stairway to heaven, of course. It can also mean that, in case of another leg to the correction, the share price should weaken less than the others.
Usually a results surprise is defined as at least 5% below or above what the securities analysts were expecting. Also, most quant analyses only take into account what the analysts of a particular brokerage had been forecasting. We, however, have the opportunity to scan company results across the spectrum of ten different experts and their expectations. This makes it much harder for companies to release a genuine surprise.
Does this also mean that companies that manage to surprise according to our standards have a much higher chance of outperforming (or underperforming in case of a negative surprise)?
No doubt we will find out over the next few months.
One thing became clear when I was trawling through our daily Australian Broker Call reports from the past three weeks: we have set a very high standard. Many company results may have exceeded one or two experts’ estimates by 5% or more, but more often than not there are at least a few others whose expectations were either in line with the reported earnings, or even higher.
Another factor that has to be taken into account, I thought, was the fact that the outlook has to be positive as well. It’s not good, like Monadelphous (MND) did this week, to release a record profit, which appeared a little higher than what the market was expecting, but then admitting FY08 looks challenging. Such an event triggers earnings downgrades and must by definition impede any sustainable share price outperformance. I wouldn’t be surprised if the opposite would occur instead for Monadelphous shares..
I also excluded companies that were covered by less than three out of the ten experts we monitor daily.
So which companies still managed to release a surprise thus far in August?
Airline carrier Virgin Blue (VBA) did, prompting earnings upgrades of 20% at many a brokerage. The shares are highly rated by the experts, reading 0.8 on the FNArena Sentiment Indicator, but the shares haven’t done so well and that may be cause for concern. The share price graph shows a steady decline since June and today, one day after the surprise result, was no exception.
The future of Virgin Blue remains in the hands of majority shareholder Toll Holdings (TOL), but it would seem there’s no shortage of buyers in case Toll decides to sell its shares. One other element that may keep investors at bay is that while FY08 could possibly make for another bumper year, the party should be over after that.
Will all this prevent Virgin Blue shares from outperforming the rest of the market? The average target price of $2.86 suggests upside potential of nearly 40%.
(It has to be noted that not all stocks achieve a sustainable outperformance post a positive results surprise. Most do, but not all of them.)
Another company that managed to surprise the local community was insurer QBE (QBE). Given the track record of QBE management, one could almost say QBE simply lived up to expectations this week.
QBE is equally highly rated by the experts, reading 0.8 on the FNArena Sentiment Indicator. The average price target suggests there’s at least another 9% in share price appreciation forthcoming.
QBE has a long standing tradition of outperforming market expectations. In addition, the market likes it when another acquisition is being announced, for the same reason.
Those who have been following our analyses throughout the past years will know QBE is constantly among the highest ranked in the local market and its share price performance supports that position.
QBE shares trended lower since June, but they’ve jumped higher this week, with the result adding extra positive momentum to the shares.
Online classifieds giant (at least on a local basis) Seek (SEK) also managed to come up with a genuine earnings surprise. Australians continue migrating to the internet and employers have difficulties in attracting the labour they’re after. Seek has build up a powerful market position to benefit from this.
Seek is not as highly rated as the two previous stocks, only reading 0.4 on the FNArena Sentiment Indicator. This is probably due to its share price valuation which is already regarded pretty spicy at some brokerages. But its future should see a continuation of strong growth.
The share price graph shows the shares held up well in June, but came down with a bang during the correction in August. Since the result, however, investors have again put a rocket under the share price.
Seek shares surged more than 6% on Wednesday and the average target price of $8.33 suggests a breather is more than likely in the short term. The shares closed at $7.93 on Wednesday.
Another surprise result was delivered by star retailer JB Hi-Fi (JBH). I have been following this company since its listing in October 2003, when only a few analysts cared to spend any time on it, and its performance as a listed company has been nothing short of phenomenal. Those who are not familiar with JB Hi-Fi, I suggest surfing to Yahoo! Finance and requesting a share price graph for the past 4.5 years. Don’t look too long, nothing is as annoying as hindsight in finance.
JB Hi-Fi only has a 0.4 reading on the FNArena Sentiment Indicator. This is similar to QBE, but the difference is the share price has already exceeded the $11.20 average price target. This would make it rather difficult to advance much further as past experiences have shown surpassing the average price target usually indicates the shares are in for a pull back.
The shares closed unchanged on Wednesday at $11.30.
High end retailer David Jones (DJS) deserves a mentioning in this list as well, for the company would probably have delivered a positive surprise result as well, but management already guided market expectations higher in advance. David Jones only has a reading of 0.0 on the FNArena Sentiment Indicator but its average target price suggests there’s still room for 11% in share price appreciation.
A special mentioning goes to the Australian Stock Exchange (ASX) as its performance this year continues to surprise the broking community, and the recent FY07 release was no exception. The problem with the ASX is, of course, how good will the numbers be if the market turns less buoyant? And that’s exactly why some securities analysts prefer the sidelines.
The ASX has a reading of 0.4 on the FNArena Sentiment Indicator and its average target price of $51.63 suggests further upside potential of some 13%. This is the highest on this list after Virgin Blue.
Only one company genuinely surprised in a negative sense thus far: Boral (BLD) which should come as a surprise in itself given that expert earnings estimates have been in a downtrend for at least twelve months. This can probably serve as an indication of how the market, or at least the securities analysts, have been underestimating the downturn in the US housing market, while being too optimistic about the housing trend in New South Wales.
Boral is, suitably it would appear, rated negatively on the FNArena Sentiment Indicator: minus 0.2. Its share price is narrowly higher than the average target price.
A special mentioning on the negative side goes to Energy Developments (ENE). The company would have delivered a negative earnings surprise this season, but management elected to release the bad news ahead of the scheduled release.
It would seem that any positive surprise by ENE management in the months ahead might trigger a sharp share price rally as the average price target of $4.36 suggests nearly 30% upside potential. The FNArena Sentiment Indicator says 0.0.
I have little doubt that Boral and Energy Developments are likely to be among the relative underperformers in the weeks ahead. I am not so sure whether all other companies mentioned will manage to outperform between now and the end of October.
Only one way to find out.
Till next week!
Your happy as always editor,
Rudi Filapek-Vandyck
(Supported by a Fabulous team comprising of Greg, Terry, Chris, George, Joyce, Pat and Grahame)
