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This might sound like a dumb question (I'm relatively new to the stock market). I know this doesn't happen, but why doesn't the stock price directly move in accordance to the earnings reported vs what analysts estimated?

For example, company XYZ releases their earnings report and it's an actual EPS of 11 vs. an expected EPS of 10 by Wall Street. Shouldn't their stock appreciate by 10% as soon as this happens?

I sometimes see companies beat earnings expectations yet they depreciate a bit. Why does this happen?

Chris W. Rea
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Nico
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  • this duplicates https://money.stackexchange.com/q/12539, https://money.stackexchange.com/q/29041, https://money.stackexchange.com/q/44532. –  Feb 19 '22 at 09:05

3 Answers3

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The market is forward looking and share price tracks company earnings, thought not in a straight line linear correlation that you suggest. If a company reports earnings significantly higher than expected, its stock price tends to rise and vice versa.

Sometimes "companies beat earnings expectations yet they depreciate a bit." This is because there are other components that are problematic. The most consequential one is that earnings are up but the company lowers forward guidance (for example, think tariffs). Or perhaps they beat on earnings but fell short on revenues. So while they beat estimates, they failed to meet or they are projecting that they will fail to meet other metrics.

A perfect example of this was the EA of of Gartner (NYSE: IT) this morning. They announced solid second quarter 2019 results but lowered full-year guidance. Shares were down as much as 21%, closing at at $138.26, down $32.47 .

Bob Baerker
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  • I just read that it is not legally required to provide earnings guidance. Why do some companies do anyway if they know it will tank their stock? – Nico Jul 30 '19 at 21:52
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    That's correct. Companies are not legally required to provide guidance but it is common practice to do. In the case of good news, it helps the company increase share price. It can also be to offered to dampen excessively optimistic analyst expectations. FWIW, Warren Buffet is against quarterly earnings reports because he believes that it may lead a company to focus on short term rather than long term results. – Bob Baerker Jul 30 '19 at 22:00
  • What's stopping a company from intentionally reporting poor guidance to tank the stock and enabling them to buy-back shares at a massive discount? – Nico Aug 01 '19 at 03:01
  • @Nico That's a very different question and maybe should be asked on its own, but three comments: (1)'The company' is not the same as the people managing the company. So if the company releases poor guidance on purpose, it would have to be specific, in-the-know management individuals who use that information to personally gain by buying underpriced stock; (2) Releasing incorrect guidance would constitute fraud on the exchange that it was listed on; and (3) using that incorrect guidance to knowledgeably buy underpriced shares would constitute 'insider trading' and is also illegal. – Grade 'Eh' Bacon Aug 08 '19 at 13:17
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Share price is total discounted value of future earnings (plus assets). A single quarter will be small portion of that. For instance, if the discount rate is 8%, then a single quarter is about 2% of the total value. So quarterly reports are not important for the current earnings as much as for the future outlook. Current earnings being 10% above expected will increase stock price by 10% only if the market is confident that that bump will be sustained. If current earnings are up 10% over expected, but the forecast is for the next five years of earnings to be down 5% below expected, then the stock price will decrease.

Acccumulation
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  • Strongly disagree with this answer. It implies that there's any rhyme or reason to stock prices, but there's not. – xyious Aug 01 '19 at 16:26
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    @xyious The idea that stock price is not related to earnings is quite a claim. You're not just disagreeing with "this answer", you're disagreeing with basic economics and common sense. – Acccumulation Aug 01 '19 at 16:43
  • So Kohl's has a P/E of 10, Amazon has a P/E of 80, BYND has a P/E of 400, you're saying they should be at the same price.... or in other words, you're saying the future earnings of BYND make it a stock that's five times as good as amazon ? – xyious Aug 01 '19 at 19:00
  • economics and common sense have nothing to do with the stock market. The stock market is driven by hype and fear. It's why people like Warren Buffett make billions of dollars. It's not despite but because the market strongly differs from economic fundamentals – xyious Aug 01 '19 at 19:02
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    @xyious "you're saying the future earnings of BYND make it a stock that's five times as good as amazon ?" No, I'm saying that the ratio of expected discounted future earnings to current earnings for BYND is five times Amazon's ratio. "economics and common sense have nothing to do with the stock market." If you have such bizarre view, it's unlikely that I will be able to convince you otherwise, especially within the confines of comments. – Acccumulation Aug 01 '19 at 22:05
  • Of course. You're arguing that the market determined price for any stock is its true value, which means you may as well not pick stocks and just put money into index funds because you can't beat the market because every stock is priced correctly. I just strongly disagree with that statement because of people like warren buffett and others who consistently beat the market because stocks are not priced correctly. – xyious Aug 02 '19 at 15:26
  • @xyious "you may as well not pick stocks and just put money into index funds because you can't beat the market because every stock is priced correctly" I can't speak for Acccumulation, but yes, many people believe that, or something very close to that. – Grade 'Eh' Bacon Aug 08 '19 at 13:13
  • @xyious My answer claims that price is based mostly on expected future earnings, and current earnings are a not a large factor, except as as they affect what people expect future earnings to be. So your discussion of P/E (where "E" refers to current earnings) not being constant is simply supporting my point. – Acccumulation Aug 08 '19 at 15:42
  • As for people like Warren Buffet, it's hard to tell how much of his success is due to skill and how much to luck, and even if someone can "beat" the market, that just shows that there is some economic factor that isn't taken into account by the market. To extrapolate that to economics having nothing to do with stock price is absurd. You're presenting a false dichotomy: either analyzing stock price as discounted future value of earnings has absolutely no validity whatsoever, or the stock price is exactly equal to its "true value" (whatever that means). – Acccumulation Aug 08 '19 at 15:42
  • The price of a stock is the expected discounted future value of its earnings, where "expected" means "the market's best guess". Overall, the market's best guess is hardly uncorrelated with realized earnings, it is reasonable to treat what deviation there is as reflecting real uncertainty, rather than the market getting it "wrong". When it comes to a normal person who doesn't have the knowledge, resources, and skill of Buffet, picking mutual funds and ETFs with minimal management probably is the best strategy. – Acccumulation Aug 08 '19 at 15:42
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Unfortunately, it's not that simple nor is it that efficient. There are a few things to keep in mind.

  1. Stocks move based on perception not reality. Positive sentiment causes people to buy and negative sentiment causes people to sell. This leads into the next points.
  2. A company can report great earnings and poor guidance for the upcoming quarter. More often then not, the market will assign more weight to the poor guidance.
  3. An earnings "beat" doesn't always guarantee a positive response. Sometimes, you'll find that the market was expecting a higher earnings beat or very specific news.
  4. The total EPS is just one part of the earnings. The devil is in the details. For example, a company may report a good EPS but slowed sales in a key division.
  5. Earnings reports are quarterly so you can't value a company entirely on how they did in one three-month period.

There's a whole host of things that can impact the market's reactions to earnings. Most traders never play the earnings since they know its a coin toss.

daytrader
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