We’re less than a week from the unofficial kickoff of earnings season, and I couldn’t be more excited. When a company reports earnings, investors get a fresh wave of data about the health of their companies. Unlike the hype we all hear from disreputable sources or the slanted news coverage you get from various media outlets, these earnings numbers don’t lie.
In preparation for earnings season, I’m going to cover some of the biggest factors that impacted companies in the last quarter, so you can know which sorts of companies are going to catch a tailwind and which will be trying to meet their goals without the extra support.
Let’s go ahead and cover everything you need to know about second-quarter earnings season.
Earnings Season Trend #1: The U.S. Dollar
Since the recession began and the value of the U.S. dollar started an underlying downward trend, I have received numerous comments and questions wondering how investors would survive the devaluing. If you’re one of those people concerned over the recent decline in the dollar, my advice is simple: Invest in companies with strong international business ties.
If you’re a U.S. business that sells goods and services at home and abroad, you’re going to get paid in foreign currencies. When the value of the dollar is declining and you’re converting those foreign funds to U.S. dollars, you’re going to get a boost to your bottom line. That’s because you get a lot more dollars in the currency conversion than you used to when the value of the dollar was higher.
This is what is happening to companies right now, and this earnings season you’re going to see companies with strong overseas sales get a currency tailwind that will translate to higher earnings. This leads to analyst upgrades and bigger earnings surprises, which get stock prices moving higher.
Betting on the declining dollar may not sound like an obvious choice, but it’s a choice that works — especially during earnings season. I’ll give you an example: In my Blue Chip Growth service approximately 60% of the companies I recommend to subscribers are paid in foreign currencies. During first-quarter earnings, my Blue Chip Growth stocks posted an average earnings surprise of 8%, tearing apart analysts’ estimates. A big part of their success was due to the boost in earnings received from currency conversion.
The role of the U.S. dollar in earnings should not be underestimated. If you’re looking to buy companies that will do well this earnings season, check their recent quarterly and annual reports to see what percentage of their sales are based abroad. Any significant sales in countries with appreciating currencies against the dollar are going to get an extra boost this earnings season.
Earnings Season Trend #2: Stock Buybacks
Since many companies can borrow money at 3% or less, an increasing number of smart CFOs are deciding to buy back their respective stock. This is a smart move in any market, but even smarter in the current market, given the recent drops it has experienced. Investors aren’t big fans of volatility and are now looking for safe bets. And one of the first things they look for when choosing a safe stock to invest in is a low P/E ratio.
The P/E ratio is calculated by taking the current stock price and dividing it by the last reported annual earnings per share. When a company buys back shares, there are fewer shares available on the open market, and that lowers the P/E ratio and makes it an attractive buy.
When a company can afford to initiate buyback programs, it is an excellent sign of health. Fewer shares on the market not only lower the P/E ratio but also drive the market value higher. So stock buybacks are great treats for investors.
Many companies attract more attention just before or just after earnings seasons by announcing buybacks. Check your holdings for recent buybacks and get ready for some added buying pressure this earnings season and beyond.
Earnings Season Trend #3: Energy, Technology, Retail and Cyclicals
Last quarter, all 10 sectors of the S&P posted earnings surprises. This quarter analysts have cut expectations for six out of the 10 sectors. Only four sectors have not been cut, and those four are energy, technology, retail and the big cyclical companies.
We’re still seeing the effects of high oil prices at the pump, and decisions to tap into oil reserves have further added to the attraction of oil-related stocks. Also in the energy sector, the solar industry has received big boosts over the last quarter. Announcements from countries like Japan, China and Germany vowing to reduce their uses of nuclear energy sources over the next several years in favor of alternate energy sources like solar energy, brought a whole new pool of investors into the field.
As for the technology sector, it’s difficult not to have high expectations when companies are constantly revealing new technologies or innovative products. No doubt gadgets like Apple’s (NASDAQ: AAPL) latest iPad and recent advances in cloud-computing will be the focus of many upcoming earnings reports.
I have to say that I’ve been impressed with the resilience of retail stocks on the whole. It’s no secret that consumers have become increasingly frugal in response to higher costs, weak employment numbers and other concerns. Though retail sales have begun to wane, the declines have proven far less than expected, and analysts are still calling for 51% growth in the sector for the second quarter.
And then there are the cyclical stocks. These stocks are defined by their connection to the health of the overall economy and normal business cycles. Many of these stocks were hit on expectations of lower GDP growth. With GDP expected to pick up in the second half of the year, we’ll likely see these companies announce strong forward guidance and buyers rush in.
Just because a company is in one of these sectors doesn’t make it an automatic buy, but if you’re looking for new buys this earnings season, this is where I would start your search.