How Earnings Misses Can be Helpful for Investors

This time of year is always a busy one, as we are in the middle of corporate reporting, better known as “earnings season,” for the recently completed September quarter. It’s easy to get caught up in the barrage of headlines, results and guidance, not to mention the horror that encroaches when a report just misses expectations — let alone when it goes bad.

A great example was seen yesterday with GrubHub (GRUB), an online and mobile platform for restaurant pick-up and delivery orders that saw its shares drop more than 23% following a $0.01 per share earnings miss on lower-than-expected revenue and a weaker-than-expected outlook. Like rubbernecking at a traffic accident, we can’t help but look at these incidents and see that there is no shortage to be had this earnings season, thanks to Twitter (TWTR), Radian Group (RDN), Cummins Inc. (CMI), Hartford Financial Services (HIG) and T-Mobile US (TMUS). Those were yesterday’s casualties. As you can imagine, as we walk back over the last two weeks we’ll turn up even more such misses and hard-hit stocks.

While we may not be interested in these particular stocks, they still can be useful to us as we mine them for data points that can serve either to confirm existing positions, or to identify new ones. For example, Cummins not only missed revenue expectations, but this engine manufacturer also warned of continued weakness in Brazil and China, as well as a sharp fall in engine demand for off-highway vehicles, such as construction machinery and farm equipment. Digging further into the company’s weak results, we find that its third-quarter sales of heavy-duty truck engines dropped 9% from last year amid slowing orders.

That last data point, along with the overall tone of the Cummins September-quarter results and earnings conference call, served to confirm my bearish stance on heavy-duty truck manufacturer Paccar (PCAR). In my options trading service, PowerOptions Trader, I’ve recommended subscribers utilize a put option strategy to capitalize on downside in Paccar shares, given weakening truck demand and a continued slowdown in the domestic manufacturing economy. In the chart below, you can see that month over month, the industrial economy here in the United States has posted only one month of growth out of the last nine months.

In the next chart, we see the impact of the declining manufacturing economy, which has led to excess capacity.

What this means is that because of the slack in the manufacturing economy, there is a surplus of manufacturing capability, and we’re seeing that in the truck market. A recent survey conducted by Bloomberg/Truckstop.com found that:

• 71% of truckers don’t plan to buy more tractors or replace tractor equipment in the next three to six months.
• About 56% of respondents cited weak demand as the main reason, while 24% referred to high equipment costs.
• Some truckers can’t afford to maintain or buy new equipment due to regulatory pressure. More than 53% of respondents expect there will be too many available trucks in the next six months.

The takeaway from that survey is there is too much excess capacity among the existing fleet of trucks, and demand for new trucks likely will weaken in the coming quarters. It is not looking good for companies like Paccar, Volvo (VOLVY), Navistar (NAV) and Daimler AG (DDAIF) that manufacture new heavy trucks.

As if that was not enough, yesterday United Parcel Service (UPS), better known around my house growing up as the “man in the brown truck,” shared on its September-quarter earnings conference call that there is “definitely softness in the manufacturing sectors” of the U.S. economy. Some of this softness was attributed to the strength of the dollar that has hit U.S. exports during the last several quarters. Given the sixth round of interest rate cuts in China last week, and the increasing likelihood the European Central Bank will embark on another round of monetary policy stimulus in the next few months, it could mean a stronger U.S. dollar for longer than previously expected.

The bottom line is whether it’s a good earnings report or a bad one, we can dig into it and find confirming data. As we’ve seen over the last few weeks, there are more bad reports than good ones, but that’s just good news for subscribers to my PowerOptions Trader service because we can capitalize on that bad news with put options.

Next week, I’ll talk more about how we can put what we learn during earnings season to work for us, especially if there is a mismatch between a stock’s price and its fundamentals. One area that I see as compelling this earnings season is cybersecurity, which to me is the new “insurance” — you may not think you need it, but when you get hacked, you’ll be glad you have it. My colleague Doug Fabian did a fantastic webinar on the subject, highlighting one of my favorite exchange-traded funds (ETFs) in the process — PureFunds ISE Cyber Security ETF (HACK). To watch that webinar, click here.

In case you missed it, I encourage you to read my e-letter column from last week about how exchange-traded funds are getting more attention from investors. I also invite you to comment in the space provided below.