1/06/2007

Trading Earnings Breakouts

Earning season offers some of the best trading opportunities. Earnings numbers provide fresh set of information to market participants and act as a trigger for move in either direction. The post-earnings-announcement drift is well known and well researched and the most persistent market anomalies that researchers have not been able to attribute to solely inadequate risk adjustment. The post earnings announcement drift anomaly means the tendency for stocks to earn abnormally high returns in the three quarters following a positive earnings announcement, and to earn abnormally low returns in the three quarters following a negative earnings announcement.Academicians first discovered this anomaly in 1968.

Ball and Brown first described this anomaly in 1968, yet it still occurs decades later. An allegedly efficient market knows of the drift, yet does not take the drift into account in setting prices, thereby driving the drift out of existence. As most traders know if something is known it stops working. However this is an openly available profit making strategy which continues to offer opportunity. Eugene Fama of The Efficient Market Hypothesis fame called the post-earnings-announcement drift the “Granddaddy” of market anomalies

However many traders continue to avoid trading during the earning season, which is largely based on misconception and ignorance. As most readers of this blog know, I have been persistently talking about earnings for more than a year. Here is one strategy, you must master if you want to be profitable in the market. If you cannot make profit from a proven well researched strategy, you should seriously reexamine your own trading knowledge and prejudices. If you have to master only one strategies you should master this one, the payoffs are enormous.

One very good thing about the earning trade is many people do not know about it. Many people do not read anything beyond technical analysis books and most traders have unhealthy disdain for academic research. Even if you are aware about it, making it work requires further effort and study. One needs to build a systematic approach to finding and exploiting such opportunities. If you can do that you will be excited about every earnings season.The biggest tumbling block for most traders is their existing paradigm prevents them from thinking differently and put the effort behind an approach like this. It is much easier to spend time loking for magic, super secret chart patterns or latest Elliot Wave techniques or indicator. Making, what has proven to work, work is not very challenging for many people.

Having traded this strategy for over 5 years now,I always look forward to earnings season. Every earning season helps me further perfect it and gain new insights besides the profit which I make trading it.

The earning season starts in earnest next week.

Related posts in this series:
Earnings Season- Time to be very careful...
Earnings and Dan Zanger
Earning Surprise System for $1495
Trading Earnings Breakouts
Earnings Acceleration- Long Term Impact
Trading Earnings Breakout -Part1
Trading Earnings Breakouts -Part2
Trading Earnings Breakouts -Part3

6 comments:

Paul said...

Read Barron's from this weekend, Abelson notes how the 50 best performing stocks in the S&P in 2006 were the ones least followed by wall street analysts. This is per Richard Bernstein's research at Merrill. Funny how this is a revelation to them!

Walter said...

disregard my earlier post/questions on your first post of charts...

Pradeep Bonde said...

People spend years on street without questioning the conventional wisdom. That is one reason why new speculators and speculators with research based approach often beat those who have been around for long. There are so many myths on the street, it is unbelievable. You can see the same in trading blogosphere. Traders are more attracted to negativity and conspiracies than to blogs with profitable methods.

Walter said...

no negative earnings surprises charts...

Pradeep Bonde said...

Short side work very differently. General observation is that good news is hoarded by companies but bad news is preannounced.
In fact one of the strategy I have researched and traded some years ago was buying on earning miss. It also works. There are more miss and negative earning buying strategies that I have worked on which work very well.
But more about them later in a bigger post I plan for this coming week.
The simplest fact is it always is easier to make money on long side than short.

NO DooDahs said...

Abelson is a tool.

Another blog has commenters lamenting the lack of good set-ups. Even though I don't predominantly play the earnings game, even with the value/anti-value stocks I watch, and keeping an eye on the sector rotation, I am finding a lot of potential targets.

Also, their macro views about "economy" and "oil" are not allowing them to see the trees for the forest.

It should be a fun month.