Editors Choice

Wednesday, 1 February 2017
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Profit Warnings

OFX Group (OFX) and GBST (GBT) have all had profit warnings this results season - they fell 24% and 16.9% in a day. Aconex (ACX) also fell 45% on a profit warning. It was a $2bn stock. In  the same week we saw a 17.7% fall in Virtus (VRT) on another guidance downgrade. That followed warnings from Bellamy’s (BAL) and Sirtex (SRX), Brambles (BXB), Oroton (ORL), Servcorp (SRV), Aurizon (AZJ - which was the new CEO deck clearing with write-downs) and Pro-Pac Packaging (PPG.AX) and I may have missed some others.  The alarm bells are ringing. Its a minefield out there.

Here is a bit of a guide to identifying stocks that have (1) the potential to fall a lot if they had a warning; and (2) are at risk of a profit downgrade.

1. If you are looking for stocks that could fall a lot of if their results disappoint look at the following

  • Big premium to intrinsic value. The big falls after profit warnings come when the market can’t value the stock - when it is an “earnings tomorrow” story - and without knowing where the floor is the sellers take no prisoners. Intrinsic value was 131c on ACX and it is still over 100% overvalued on that basis.
  • Big premium to average broker target price.
  • Overbought on RSI.
  • Low/no yield. ACX had no yield.
  • PE over 25x. ACX for was on a 2017 PE of over 89x before the share price fall and a 51x 2018 PE. Even after a 45% fall it was still on 50x...before the "E" in the PE is downgraded. Here is a list of the highest PE's in the ASX 300 Industrials - it does not include loss makers and you can ignore infrastructure and utility stocks that manipulate their earnings to minimise tax as they depreciate long duration assets:

All of these you can check by sorting the MARCUS TODAY ALL ORDS SPREADSHEET

2. If you want a clue as to how likely a disappointment is, look at:

  • Earnings being downgraded previously – check recent announcements and see column AK in the Marcus Today All Ords Spreadsheet (trend in earnings revisions). Here is a summary of the stocks which are seeing the sharpest trend in earnings downgrades (some of these have already had profit warnings and many of the stocks that could have a profit warning won't appear until they have - so it may not be much help):

  • The share price trending down ahead of results.
  • Management share sales (examples - ACX and BAL).
  • Whether they are on the most shorted list - CLICK HERE for that list - (Example ACX is the most shorted stock in the market). Those shorters are not stupid.

As an example of a stock that was vulnerable if it disappointed then ACX was an obvious one in hindsight. In the case of ACX it was on a PE of 89x. It was also on a 400% premium to its intrinsic value. It is still on a 200% premium to intrinsic value. You can find all these numbers in the MARCUS TODAY STOCK BOX for ACX and all stocks in the All Ords available to you as a Member of the Marcus Today newsletter. 

In a mild attempt to highlight stocks that could get belted if they had a profit warning here is a list of 50 stocks trading at the biggest premium to their calculated intrinsic value:

The lack of intrinsic value support suggests that if they did disappoint then there is little fundamental valuation support…so sentiment could take the price significantly lower. Note that the list doesn't include stocks with NO intrinsic value calculation - they may be just because there isn't one or because they are a loss maker -  there are 138 of them in the All Ords. Industrials on that list include EML, SHV, SLC, CAB, FLN, AMA, TFC, NAN, XRO...which may not mean they have no intrinsic value, its just not calculated by the database. 

Here is a list of industrial stocks that combine a few factors - highish PE, premium to intrinsic value or no intrinsic value. A lot of last year's glamour stocks are on the list.


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If you hold some of these stocks, before you rush out to sell them, have a look at recent announcements and see if there has been a recent earnings comment or guidance or results commentary. If so then there is a lot less risk because earnings expectations are presumably in the price and are unlikely to surprise. Altium (ALU) for instance is on the list but has had earnings guidance already.

Then assess the industry earnings trend. What industry is it in and is that industry thriving or not. Top down stuff rather than bottom up.

Essentially I can put up this list of expensive mid-caps but you have to assess the stocks you hold on a stock by stock basis. This is not a list of stocks to sell, it is a heads up to holders of these stocks to check your facts, research opinions, announcements ahead of their results and if in doubt, get out ahead of the results. They are all vulnerable.

Having said that, VRT fell 17% on a profit warning and it wasn’t on the list. Same with OFX and GBT. VRT was only on a PE of 14.7x, has a 6.8% yield and is at a 20% discount to intrinsic value. So despite the best efforts to identify risky stocks, the truth is that…nothing’s safe! Stocks move on sentiment alone these days and they move a lot and they move fast. It doesn’t really matter if that’s a function of HFT (high frequency trading) or computer trading, it happens and we have to live with it.

By popular request - here is a list of the stocks that have seen earnings upgrades going into the results season. You would assume that these are the 'safer' stocks running into results....but maybe not - you'll notice that resources feature highly:


The (not so) amazing thing about the ACX profit warning and the 45% fall is that the brokers liked it. Morgan Stanley had an OVERWEIGHT recommendation published the day before the downgrade, with a 930c (!) target price. They said there was an 80% chance of it being higher in the next 30 days. It is now 307c. Another broker had research out on 23rd January saying the sale of 400,000 shares by management was immaterial. They had an 850c target price.

There are a few points that arise:

  • If analysts at the big brokers, who research a stock in depth, visit the company, know management and analyze the numbers, cannot get a stock right then what chance has everyone else.
  • When the “value” of a stock is unknown (typical of a tomorrow’s midcap/small growth stocks) then share prices can be destroyed on sentiment without a floor. You can’t argue with the 45% fall in ACX. Its still on a PE of 54x now.
  • With continuous disclosure rules in place, as per last results season and the one before, the results season has become a very dangerous time for investors and in my humble opinion I would prefer to be missing the few surprise share price rises in order to avoid the more savage share price falls – losing money is, after all, three times more painful than the joy of making it.
  • Perhaps the better approach is to avoid mid-cap growth stocks on high PEs before their results and look to buy them again after results. When a company has had results (like CCP today) the stock is de-risked and you can happily assess the trend, the sentiment and the research and, if its good, buy with a low or no risk of an earnings shock in the next 3-6 months. Why gamble before the results. 
  • If you are looking to buy income stocks for the dividends, why not wait for the results to get out opf the way, why take the risk, and if they are OK, buy for the dividend after the announcement rather than take the risk over the results.

The bottom line is that after the experience of shock drops in stocks like ACX, VRT, OFX, GBT, BXB, BAL, SRX, MTR, NXT, VOC, MYX, ISD in the last 3 months it is clear that earnings announcements carry a lot of risk and rarely as much reward

Stocks regularly crash 10-45% in a day but they rarely jump 10-45%. So the more conservative way to invest and trade is to avoid these high PE, low intrinsic value stocks over the results period and buy them after the announcement (if at all) and after the stock has been de-risked.

In the results season minefield I would prefer to miss the initial jump on the day of good results, and jump on to catch a new uptrend they may kick off, than take the risk of a shock drop on the results. 

And before you say "But Marcus, don't you know which stocks are going to have good results, isn't that the point?"....the answer is, sorry, but if the big brokers can get it so badly wrong, then no-one can trust the forecasts on which our research is done until after the results. So no I don't know, because clearly, no-one does, not in these small and mid-cap growth stocks that probably don't know their own results until the CFO reports them to the board the day before results. 

Footnote: Looking at all these shock drop stocks I can tell you something else. If you look at the worst performing ASX 200 stocks in the last 3 and 6 months almost none of them have bounced in the last month or week. In other words….do not buy shock drop stocks. Just because the price is lower doesn't mean it is going to go up, more often than not a falling share price means its going further down. Stocks rarely turn miraculously on a sixpence to suit a contrarian trader. Here is the proof - this is a list of the stocks that have had shock drops in the last few months showing the price change in 1,3 and 6 months and over one year - almost all the recent profit warning stocks have fallen into results:


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