Reasons Why I Stop Playing Earnings Gaps Part 2

So is it possible for one tell if a company's actual earnings will beat analysts’ earnings forecast, before the actual earnings result is announced publicly? Allow me to just share some techniques that people that I came across use to try to predict earnings:

• Estimate the earnings-per-share (EPS) figure from the number of products the company has sold. For instance, there are people who try to correlate past sales figures with historical EPS and predict what the next EPS could be. Or if you find that a particular product is always out-of-stock, good chance that its sales is unexceptionally good, chances of the company beat earnings is higher.


• Look out for unexpected spending during the quarter. For example, unexpected court cases, fines, hefty advertising charges etc. These tend to make the company not being able to meet earnings forecasts.


• Look out for companies whose insiders are buying their own company stocks some time before earnings announcements.

I believe one has to be very familiar with the business that the company is in and has to follow the company news very closely in order to guess if the earnings will beat forecast. Frankly speaking, so far I have not came across anyone that has managed to guess correctly consistently.

So if the actual earnings beat earnings forecast, does it mean the stock price will definitely gap up?...

Reasons Why I Stop Playing Earnings Gaps Part 1

The first strategy that I started off to trade options was using earnings gaps. Why I trade them in the first place? What are earnings? What are gaps?

Listed companies in the United States are required to announce their profits and revenue to the world every quarter (3-monthly). This is commonly known as "the company announcing earnings". The idea is very simple. Analysts covering the company would have , based on any available information, to forecast the earnings results for the company before the company actually announce their earnings. Generally, when the actual earnings beat the earnings estimates by the analysts, the stock price will move up!

And given the highly-liquid (super big trading volume) nature of the US stock market, stock price gaps are commonly seen, especially after earnings announcements.For instance, AAPL gapped up by more than $14 after they released their earnings results before market opened on Tue 23 Oct 07.

Why trade earnings? Because earnings announcements are about the few events that are predictable in the market! No, I am not saying that I know for sure if a company will report good earnings or not. We know exactly when the companies will release their earnings results. There are earnings calendars that tells us exactly when every company is reporting their earnings.

Now we know when companies are reporting their earnings, next step is to guess if the actual earnings will beat analysts' earnings forecast right? Things are not as simple as it seems...