Welcome to Q3 Earnings Season: How Bad Will Q3 Earnings Reports Really Be, and How Do We Prepare?

Investing

Will it be a happy Q3 Earnings Season, or a dire one?  The Q3 earnings season unofficially kicked off this week on Tuesday With Alcoa’s (AA) third quarter earnings announcement, and there’s been a lot of speculation around how low profit expectations will negatively impact our fragile financial markets.  Here’s how earnings seasons work, as well as what to look for as major companies announce their performance.

What is Earnings Season?

When watching stock market news or reading the financial headlines, you will often come across the term “earnings season.”  Specifically, this term refers to the periods of time when most corporations release their quarterly profit reports, thereby making this information available to the public.  Since a “quarter” describes a three month period, companies will release this information 4 times each year and investors can use this data to make the decision to either buy, sell, or avoid certain stock positions based on the strength of its previous performance.

When Are Earnings Seasons?

Earnings season is typically viewed as coming in the month that immediately follows the end of each quarter, which means that corporate earnings reports are widely released in the months of January, April, July and October.  The reason for this come is that companies need some lag-time between the end of each quarter and a sufficient accounting period to ensure that earnings figures are accurate and provide a true picture of the company’s performance during the period.

A Busy Time of Year for Stock Markets

Without question, earnings season is the busiest time of the year for investors and other market participants, as all publicly traded companies (companies with stocks listed on a major exchange) will report their most recent profit results.  Financial analysts and fund managers will gauge their valuation estimates based on these figures, and since these analyst forecasts can have a large impact on the future performance of the stock, it is very important for investors to watch the results of these periods before committing to any new stock purchase.

Third Quarter Outlook: A Rocky Road Ahead?

With the month of September drawing to a close, markets will once again be looking to quarterly earnings reports in the coming weeks as a means for gauging stock performance into the holiday season.  It’s no secret that a large group of market analysts expects the third quarter of 2012 to be the worst in three years in terms of corporate profit outlook.  This quarter is expected to be notable in the fact that earnings growth for publicly traded companies is forecast to actually turn negative, which is a phenomenon that has not been seen since the 2008 financial crisis.

Analysts’ forecasts for companies in the S&P 500 are showing a possible drop of 2.7% for the period, which is a sharp reversal from the June expectations (which were calling for gains of 2% for the third quarter).  Many of these negative forecasts are based on the previous commentaries of the companies themselves, as discouraging pre-announcements have been widespread (outnumbering positive pre-announcements by a ratio of 4 to 1, which is also the worst since the financial crisis).

How Should Investors Prepare for Q3 Outcomes?

Looking ahead, what should new investors be watching for in the coming weeks?

We firmly believe that market timing doesn’t work.  You shouldn’t get yourself into a tizzy trying to time the markets this fall to buy and sell short term holdings to capitalize on fluctuations and rallies in the next few weeks.  Rather, your investments should reflect longer term, diversified holdings that you’re willing to hold for a longer period of time than just one quarter.

At the same time, another point to take into account is that since market expectations are already clearly negative, there is some scope for stock rallies if these forecasts prove to be inaccurate (or even if they are not as terrible as the expectations show).  At this stage, stock values are already reflective of market pessimism, so it won’t take much to create a positive surprise.  Keep this in mind as we head into the holiday season.