Earnings growth enthralls almost everyone, right from the top brass to research analysts. But the question here is why? This is simply because earnings are a measure of the money a company is making. Take a company’s revenues over a given period of time, subtract the cost of production and you will have its earnings.
This metric is also considered the most significant variable in influencing the share price. Better-than-expected earnings performances normally lead to a rally in the share price. However, in addition to actual earnings, expectations of earnings play a vital role in determining share price movement.
Earnings Estimates Determine Share Prices
We have often seen a decline in the stock price despite earnings growth and a rally in the price following an earnings decline. This is largely a result of a company’s earnings failing to meet market expectations.
So, what are earnings estimates? It embodies analysts’ opinions of factors such as sales growth, product demand, competitive industry environment, profit margins and cost controls. Thus, earnings estimates serve as a valuable tool while taking investment decisions. Earnings estimates also help analysts assess the cash flow to determine the fair value of a firm.
As the second-quarter earnings season is almost coming to an end, we have picked stocks that have displayed historical earnings growth and are also seeing a rise in quarterly and annual earnings estimates. As of Aug 16, 462 S&P 500 members have reported their earnings figures. Earnings for these members are up 10.7% on 5.8% higher revenues, with 74.5% beating EPS estimates and 68.3% surpassing top-line expectations (read more: The Retail Sector’s Mixed Q2 Showing).
The Winning Strategy
In order to shortlist stocks that have striking earnings growth and positive estimate revisions, we added the following parameters:
Zacks Rank less than or equal to 2 (Only Zacks’ ‘Buys’ and ‘Strong Buys’ are allowed. With the Zacks Rank proving itself to be one of the best rating systems out there, this is a great way to start things off.)