Q3 Earnings Season: Not the Time to Get Short

This week I'm going to try to stay positioned long (even if only slightly long).

The main reason is the quarterly earnings kick off this coming week, starting with Alcoa (AA) on Wednesday, and then the big investment banks report the following week (also coinciding with option expiration). A lot of bears I trade with are going into earnings season a little too confident, but I think these multinational companies can report top-line revenue simply because of the weak dollar for Q3. Take a look at the chart of UUP (long dollar), and you can see that it spent most of Q3 in a bearish decline:

Also, the banks should be better-than-expected simply because credit indices for Q3 nearly DOUBLED from Q2. If you take a look at CMBS (Commercial Real-Estate Mortgage Backed Securities) you will see that it doubled from June 30th. It's nearly the same for Residential MBS and other corporate bonds.

All told, these banks can have negative revenue growth but report strong profits from investment gains and trading. I expect the big insurers (MET, PRU, HIG) to be the big winners here. Here is a chart of "AA" rated CMBS:

Thus, I won't get short going into earning season for Q3 next week. We saw three months ago how bears got ripped apart the last time earnings were better-than-expected. The "bar" for earnings is still being set pretty low. And remember, while the selloff on last week was fun to ride, the trend is still up. Trade safely.

Full disclosure: Short SPY October Puts

Comments

[logicalthought:]

It's all about the guidance, and I think you'll see companies guiding for a nastier-than-expected Q4.

Oct 04 08:49 AM

[Tom Armistead:]

Good point on PRU, MET, HIG, other insurers such as ALL would also be affected.

All these companies report two versions of Book Value - GAAP and ExlAOCI (excluding all other comprehensive income). The gap between the two has been narrowing in recent quarters and the 3rd quarter will be more of the same. Losses on CMBS and RMBS are not going to be as bad as the market was pricing in.

I'm long MET, PRU and ALL.

Oct 04 08:50 AM

[Nick36:]

When the stock market is overvalued, then you can never tell when it's going to crash.

But one thing to keep in mind is that last time short-covering might've caused the stock market to rise. And such short-covering might not happen this time. Because this time too many people are too scared to short the market. Instead of short-covering, the stock market might end up with profit taking.

Also, a lot of traders follow operational earnings rather than reported earnings. And by now companies might running out of one-time losses they can ignore on their balance sheets. Which means that their operational earnings might be going down drastically and falling in line with the much lower reported earnings, even while their reported earnings are better than expected.

Oct 04 09:07 AM

[Timmothy Posey:]

True, operational earnings should be the MacDaddy over reported earnings, but it's hard to ignore CNBC doing a 24/7 scrolling ticker of "Goldman Sachs reports best quarterly earnings ever due to trading and derivatives activity".

I included the insurers especially because often times their operations (selling insurance) isn't that great, but they make tons of RIGL (realized investment gains/losses); one could make the argument that investing/trading is part of their core business since that's what they do with the premium they collect.

As for shorting, I think a lot of folks jumped on the short bus last week. We went from the highs of 1080 to about 1020 in a matter of days. Or perhaps its just the low volume of buyers that were present for those days...

Oct 04 09:19 AM

[Marc Courtenay:]

The market also appears to be somewhat "oversold" at the moment, and the "big players" still have a lot of stock inventory to unload. My sources tell me they want to unload at higher prices than are currently available. That should help cement your reasoning for staying long a short while more. But beware, a huge "bear-trap" lies ahead.

Oct 04 05:34 PM

[Albertarocks:]

>Also, the banks should be better-than-expected simply because.......<

... simply because they're consummate liars. And because no matter what the cost, the FED simply cannot allow any more banks to fail because the FDIC is runnin' a little short of cash.

For that reason, this is probably going to be one of the most infuriating weeks of the year. The pump jockeys will be working overtime to ensure (or try to ensure) that the market doesn't go the direction logic says it should go. The markets are at an absolutely critical juncture and the FED knows it. So you can bank on it (no pun intended) that the reports from the banks are going to be doctored up to look nice and pretty. Those pigs will have more lipstick painted all over their faces than Tammy Faye used to sport. But they're still pigs.

This is undoubtedly the most critical point in time for the markets since early March.

Oct 04 06:39 PM

[ryanclarke:]

AA is an unstable business. I doubt oversees aluminum demand is enough to overcome the lack of demand in the United States so I question your weak dollar thesis. Plus, AA has a great deal of debt which will eat into their bottom line. The market's bailing on AA in March hints at bankrupty in the near term. As far as the banks and insurance goes they will probably wait to write down until Q4 but the question a bull has to ask is ... Can the S&P 500 manage better than $70 in operating earnings, let alone reported earnings, in 2010 ... in order to justify the S&P at 1050? Maybe if the U.S. consumer goes back to spending and buying houses they can't afford ... but the banks have shown no inclination to INCREASE lending to consumers and allow consumers to increase their debt levels. In fact, every metric I follow says that consumers are reducing debt levels ... either through default or through reduced consumption. You may be correct for Q3 but when the market finally does tune in to reality being long stock will be hazardous to you health.

Oct 04 10:31 PM

[Timmothy Posey:]

Excellent points well made. I want to short this market but my origination for this article was to stay long during the Q3 earnings season (mostly through the end of October) and resist the temptation to get short. Notice I am not outright buying calls, I'm selling October puts which allows me a bullish-to-neutral stance on the market.

I'm mostly selling the SPY $100 puts, which collect a nice premium now, yet I think there is enough support for the market above 1000 on the S&P to support me doing so. Even if the market does nothing for the next two weeks I still come out a winner.

Oct 04 11:40 PM

[FRANJUST62@...:]

Marc: October is traditionally a pull back for the market. Has not happened yet. Stay out for i bullet from Isreal and the entire market tanks..then go in an buy


On Oct 04 05:34 PM Marc Courtenay wrote:

> The market also appears to be somewhat "oversold" at the moment,
> and the "big players" still have a lot of stock inventory to unload.
> My sources tell me they want to unload at higher prices than are
> currently available. That should help cement your reasoning for staying
> long a short while more. But beware, a huge "bear-trap" lies ahead.

Oct 06 04:24 PM