When Inflation Wreck Havoc on Earnings

Earnings season is coming up again, with Alcoa (NYSE: AA) kicking it off on April 11. It will then be followed by J.P. Morgan (NYSE: JPM) on April 13, with many more to come.

While inflation was of no concern in the last earnings season, it looks to be quite different this coming earnings season. Even though the Fed said there was no inflation, some companies seemed to think differently. For starters, Nike (NYSE: NKE), before most companies were openly concerned about inflation, cited rising commodities cost, labor, and transportation cost as risks to its future earnings in its December 2010 earnings report. In that sense, Nike did not disappoint investors, as it dashed investors’ hope again in its latest earnings report on March 17 citing higher costs, pushing its stocks down ~9% after the report. Besides Nike, Carnival Corp (NYSE: CCL), the cruise operator, also cited rising fuel prices and itinerary changes due to turmoil in Middle East and North Africa on March 11 as the reasons to cut its earnings outlook.

The Fed would like investors to believe that all is well on the inflation front, but it’s getting harder and harder for investors to stomach that. The market may be bouncing well even though Middle East’s turmoil or Japan’s nuclear crisis are far from over, but investors need to be vigilant on this upcoming earnings season for companies, particularly those not in high growth modes or not having high margins that are sensitive to food or oil prices. To protect themselves, investors should consider buying put options, or even lessening their exposures before their invested companies report earnings.

This article originally appears on benzinga.com

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G7 Can Do More For Yen

One of the casualties of the Japan earthquake and tsunami was Yen, Japan’s currency. Rather than tanking because of the extra liquidity Bank of Japan provided for the market, Yen surged against all other currencies instead. In this case, traders followed the same playbook for the 1995 Kobe quake, betting that Japanese companies and individuals need to repatriate capital back to Japan for the rebuilding effort. While this thesis is debatable, traders was not concerned about the argument of its validity, and Yen rose significantly in the days following the quake, as USD/JPY traded down to 76.4, nearly an 8% strengthening in 5 business days.

As an export oriented country, Yen’s rapid ascent unnerved Bank of Japan. As Honda Motor (NYSE: HMC) estimated, each rise in one yen against the US dollar will cause 17 billion yen in lost earnings for the company. On Mar 17, G7 pledged to intervene to stop the rise of yen, and USD/JPY quickly reversed its course to trade back to 81.26. It then traded as high as 82.00 the following day. This illustrated that most of Yen’s move was more speculations by traders than true repatriation of capital.

While USD/JPY is now hovering between 80.5 and 81, judging from the inability of Yen to push past 82.00, we don’t think speculators have gone away on their playbook trade. In order to get the job done, and alleviate the need to intervene again, G7 will need to do better than this. Currently the Yen strengthening trend is still intact, and for G7 to really scare off the speculators, they need to cause technical damage to the trend. In this case, only a push of USD/JPY to 83.4, the previous rate where it was trading before the quake happened, will cause traders to doubt themselves. To really get traders to ponder changing course, though, will be to push USD/JPY pass 84.5.

In general, people do not have much faith in international coalitions, when different countries having their own policies and concerns towards a coalition’s action. This is illustrated in the enforcement no-fly-zone enforcement by the United Nations security council, when now the Arab League is wavering its support, and the US trying hard to hand off its duties, not to mention the absence of the BRIC countries in any form of support. Therefore, if G7 does not heighten its resolve to deal with Yen’s strengthening problem, it may soon find itself trapped in a situation getting harder and harder to deal with.

This article originally appears on benzinga.com

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Mini Flash-Crash in Forexland

Much has been talked about the ‘Flash Crash‘, a dramatic event that plunged the Dow Jones Industrial Average by over 900 points, and then recovered, in a short period of time. After a lot of investigation, the SEC produced a report on October 1, 2010. In the report, SEC attributed the event to a large E-Mini S&P Futures sales order by a single large investor, many believed to be Waddell and Reed Financial, Inc. (NYSE: WDR), which then unleashed a torrent of sales orders that quickly swamped the stock market.

While all attention is on the equity market regarding flash crashes, we witnessed a mini flash crash in USD/YEN forexland last friday (Feb 4, 2010). To give a perspective on why this is a flash crash event, one needs to know that Forex (Foreign Exchange) market is perhaps the largest trading market of all kind. In recent years, the average daily turnover of forex trading is estimated to be ~ $4 trillion. Even in this era where trillion is just another monetary unit, this is still a huge amount that dwarfs other capital markets. Of this, ~$1.5 trillion is in spot exchange, and Euro/Dollar comprises ~$420 billion, while Dollar/Yen comprises ~$210 billion. In short, the Forex market is a highly liquid market, with participants from all over the world ranging from central banks, major banks, mutual funds, hedge funds, retail brokers and investors.

On Feb 4, 2010 around 8:30am EST, when both New York and London markets are trading, perhaps it was a large buy order on yen, or perhaps a large related futures order, USD/YEN plunged from ~81.60 to ~81.30, i.e. > 30 pips in forex lingo, and then recovered, all within 1 single minute. This may not seem like much to an equity trader, but this is a huge swing in forex for such a short amount of time, considering that a lot of forex trading are done through leverage of 100:1. To further illustrate the disappearance of liquidity within that period, we had a small outstanding position with a stop order during that time, and it took a full second and three tranches (one lower than the order) for that stop order to be completed, whereas in a normal situation it may take ~1 micro second to complete the order in one shot.

USD/JPY Flash Crash

USD/JPY Flash Crash

For such a highly liquid market to experience a mini flash crash in such a short time frame, it makes people wonder what can really be done to prevent this from happening. While the SEC is taking different measures such as expanding circuit breakers, increase transparency of ‘dark pool’, etc., we are not sure how effective these measures will be to eradicate flash-crashes. There are also many markets out of jurisdiction of the SEC, which can and will affect the equity market in times of high uncertainty. In short, we believe flash-crashes, along with high frequency trading, are here to stay.

For an investor to protect himself against any flash crashes, one must reconsider the use of stop orders. In the case of a flash crash, it’s better not to have stop orders because it’s going to bounce right back in a relatively short period of time. However, in the middle of a flash crash, it’s extremely difficult to determine whether a flash crash is happening, or that a severe correction is under way. It is also against the trading rules of many people. An investor should therefore consider using tighter stops if they are worried about a flash crash. In the event of a flash crash, only a computer with proper monitoring of the action will have the chance to detect the pattern, and we believe such a service will come soon for portfolio managers and investors.

This article originally appears on benzinga.com

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Electronic Arts – When Laggards Give Surprises

In the past few weeks, we saw how high flyers like Coinstar (NASDAQ: CSTR), Cree (NASDAQ: CREE), and F5 Networks (NASDAQ: FFIV) getting 20-25% downside punishment after earnings reports when they reported disappointment in earnings or revenues, or guidance. Once these stocks dropped, they languished even when the stock market was roaring higher. Other than these high flyers, stocks like Best Buy (NYSE: BBY) and Nike (NYSE: NKE) behaved the same way after their disappointing earnings reports, even though their drops were not as dramatic.

On the flip side, stocks that have been languishing and near their 52 wks low can produce some wonderful pops if they can give positive surprises for the market. A good example for this is Electronic Arts (NASDAQ: ERTS), the video game company with the Madden NFL franchise and numerous other games such as SIMS, NBA Live, Rock Band, etc. As we all know now, gaming growth has been migrating from console games to online, social media, and mobile games, areas where Electronic Arts were not very well established. It also didn’t help that the company had been pushed around by Nintendo, Activision Blizzard (NASDAQ: ATVI), CAPCOM, etc. for competition in top selling video game titles for quite some time now. As a result, its stock has been trading in the teens for more than a year now, comparing to its trading price of > $50/share in 2008.

Electronic Arts reported earnings on Feb 1, Tue, after market closed. It reported $0.59 earnings per share, with expectation around $0.57/share. Its Non-GAAP revenue was $1.41 billion vs expectation of $1.43 billion. Therefore, while it beat on earnings, revenue was a little short. However, it showed good increase in games distributed digitally, a 39% increase in the last quarter when comparing with the same period a year earlier. Nonetheless, the biggest surprise came when it also announced buyback of $600 million of outstanding shares, nearly 12% of its total, over the next 18 months. With this not-so-shabby result, and the surprising size of stock buybacks, Electronic arts rose > 10% after hours.

When investing in laggards for earnings surprises, investors have to be very careful. There are very good reasons why laggards are laggards, and one only needs to look at the share price of Eastman Kodak (NYSE: EK) after reporting disappointing results a week ago. If the intention is to bet for a pop, investors should seriously consider buying call options, or use married-option strategy to hedge the risk.

This article originally appears on benzinga.com

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F5 Networks – Another Coinstar Moment

As stated in last week’s article, investors had reacted in two ways for earnings reports – Appeasements and Punishments. However, in the past week, there seemed to be more stocks with ‘coinstar’ moments, and one plunging stock can start dragging the whole sector. This is best illustrated by the action in F5 Networks, Inc. (NASDAQ: FFIV).

F5 Networks reported earnings on Jan 19. Like a lot of companies in this earnings season, it reported spectacular earnings and revenue compared to previous quarter. Nonetheless, the guidance on revenue was a little off from expectation for the following quarter: $275-$280 million vs $280.7 million. This was not really a big miss, but the reaction was violent. Its stock plummeted 20% following the news.

More importantly, this news helped to drag down a bunch of tech stocks, and put a dark cloud over cloud computing companies. For example, Juniper Networks (NASDAQ: JNPR) dropped ~4% following the news, Salesforce.com (NASDAQ: CRM) dropped ~6%, Citrix Systems (NASDAQ: CTXS) dropped ~4.5%, VMWare (NYSE: VMW) dropped 4.5%, etc. While previous crashers (e.g. Coinstar (NASDAQ: CSTR) and Cree (NASDAQ: CREE)) affected mostly their own stocks, F5 Networks started the trend on guilty by associations for this particular earnings season.

Netflix (NASDAQ: NFLIX) and Amazon.com (NASDAQ: AMZN) will be reporting earnings on Wednesday (Jan 26) and Thursday (Jan 27). These are high flyers with true momentum behind them, but expectations are also very high. In these two cases, it would be wise for investors who have a lot of gains on these two stocks to buy protections through put options prior to their reporting. In the case earnings are guidance are being met, the stocks still might not move up far right after, and the options can be easily peeled off. But in the case of disappointment, such cautions will be well worth it.

This article originally appears on benzinga.com

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This Earnings Season – Appeasements and Punishments

Since Aloca (NYSE: AA) kicked off the current earnings season on Jan 10, there were two distinct reactions to the results – Appeasements and Punishments. The current market sentiment and the two different reactions are best captured by this little story:

Everyone is appeased upon getting an Apple (NASDAQ: AAPL) from Mr. Morgan (NYSE: JPM), and forgets all the punishment a CREE (NASDAQ: CREE) received when he lost his Coinstar (NASDAQ: CSTR). Perhaps Mr. Goldman (NYSE: GS) can tell us what this truly means.

Earnings were generally positive in this earnings season. A lot of companies reported strong earnings, as in the cases of Alcoa (NYSE: AA), Intel (NASDAQ: INTC), J.P.Morgan (NYSE: JPM), etc. For them, they topped expectations, and experienced slight dips after the reports, but with the strength of the overall market, didn’t experience any major selloff.

IBM (NYSE: IBM) reported earnings which topped expectations on Tuesday after market closed, and traded up >3% after market. Apple (NASDAQ: AAPL) also reported earnings around the same time as well, and blew the expectations off. However, since this was after the news that Steve Jobs would be taking medical leave again, and that Apple initially fell 6% before recovering to falling only 3%, Apple’s stock did not move much in after-hours trading. Nonetheless, these two stocks were likely the reason for the after-hours enthusiasm which at one point caused the Dow Jones Industrial Average surged >40 points from its closing price, after rising 50 points during the trading session already.

So for this earnings season, it seems like as along as a company meets earnings expectations (and guidance, of course), there’s good chance that the stock will pop a bit, or dip a bit, but not too far off from its closing price right before earnings reports even though the stock had been rising for a while. This, however, cannot be more wrong for stocks that disappointed the streets.

Enter Coinstar (NASDAQ: CSTR) and Cree (NASDAQ: CREE), two stocks which disappointed the street. For their defiant acts, they got severely punished. While Coinstar will report earnings on Feb 3, it lowered its guidance on Jan 14, causing an overnight reversal of expectation on its Redbox growth engine, and subsequently fell 25% on a single day, giving up all its run since Oct, 2010. For Cree, both earnings and revenue disappointed the street, and its stock price subsequently fell 15% on after-hours trading.

For people who want to bet on earnings, and given how severely a stock gets punished after disappointment, it could make sense to use very short term put options or long straddles to bet on volatilities on a portfolio of stocks around their earnings dates. As long as some of those stocks experience their ‘coinstar’ or ‘cree’ moments, this strategy could reward investors handsomely.

This article originally appears on benzinga.com

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10x return stocks for 2010

Most people think it takes many years for a stock to return 10x for investors. While this is true for true-growth 10x stocks, super-spike 10x stocks and crashed-and-recovered 10x stocks typically take at most a few years to do it. In the extreme cases, it takes only a few months for a stock to return 10x to investors. And in 2010, quite a few stocks return 10x for investors within the year. As readers may suspect, only small cap or micro cap stocks can be found in this list.

Some of the stocks which returned 10x to investors during 2010 are:

  • Cost Plus, Inc. (NASDAQ: CPWM)
  • Dearborn Bancorp, Inc. (NASDAQ: DEAR)
  • SinoCoking Coal and Coke Chemical Industries, Inc. (NASDAQ: SCOK)
  • China Shen Zhou Mining & Resources, Inc. (AMEX: SHZ)

Cost Plus, Inc.
Cost Plus, Inc. is a specialty retailer of home furnishings with over 250 stores in 30 states. It currently has a market capitalization of ~$215 million. Cost Plus used to be a growth stock when it expanded its footprint throughout the US, but began its downfall around 2003, and nearly got decimated during the financial crisis. It began its recovery around Q1 of 2010, and can be viewed as a crashed-and-recovered 10x stock.

Dearborn Bancorp, Inc.
Dearborn once had its glory days before the sub-prime bubble bursted. It currently trades ~$1.8/share and its current market capitalization is only $14M, so its 10x return for 2010 was mainly speculation that it wouldn’t fall apart. It will be a long way before Dearborn can demonstrate that it’s out of the trenches.

SinoCoking Coal and Coke Chemical Industries, Inc.
SinoCoking is a Chinese Coal company. It currently trades at ~$13/share, and has a market capitalization of ~$275 million. It spiked from ~$4/share to $45/share in about 1 month from Feb 2010 to Mar 2010, and gave almost all of them back by the end of 2010.

China Shen Zhou Mining & Resources, Inc
China Shen Zhou is in the rare earth minerals mining business. Like many other rare-earth related companies, started its meteoric rise when words got out that China might restrict exporting rare-earth mineral to Japan in late September. They then again spiked after China limited exporting quota for 2011 in December. All the rare-earth minerals stocks clearly have the momentum now. While they had receded somewhat since the beginning of this year, it would be very difficult to know whether momentum buyers would take them to yet another level if new news come along. Buying or shorting at this level is simply a coin toss right now.

This article originally appears on benzinga.com

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