You Must Remember This …
Earnings are still earnings.
Dooley Wilson as “Sam” in Casablanca
That’s what I thought when I saw the quarterly reports for IBM, Apple, and United Technologies. These companies disappointed the market and their share prices fell dramatically after their earnings announcements. By contrast, Google, and JP Morgan, and Harley Davidson did better than expected. Those stocks traded higher.
It doesn’t matter whether management spins the story towards the usual suspects, claiming “it’s a building year” or “there was a speed bump.” Investors always have the numbers. Stocks are a discounting mechanism. The price is a weighted average of all the estimates of all their cash flows in all the world. When those estimates are adjusted, the share price moves.
I’m not saying those movements have to be rational. It’s not always a beautiful relationship. There are “hopium” stocks whose earnings will never justify their valuations. Conversely, there are other companies whose shares are so hated that they sometimes trade below the value of the cash on their balance sheets—often due to fears of bankruptcy or questions on their accounting. The entire market can be irrationally exuberant or irrationally gloomy.
But like Sam sings in the movie “Casablanca,” the fundamental things apply. In the short run, the market is a voting machine—where the biggest portfolios get most of the votes. But in the long run, it’s a weighing machine–as time goes by.
Douglas R. Tengdin, CFA
Chief Investment Officer