The Problem With Investor ‘Momentum’
Good-looking corporate earnings reports are sparking tremendous stock price gains once again--in the process re-energizing the market’s “momentum” investors, who feed on and abet such lightning stock moves.
There are two important messages in this frenzy. First, it shows that corporate earnings are getting better and that investors are responding to them, as they should. But second, veteran Wall Streeters know that wily momentum investors can be inherently dangerous, because they can be just as quick to leave a stock as to jump in. That could mean trouble ahead for the highest flyers.
Thursday, mainframe-computer software developer Computer Associates stunned Wall Street by reporting fourth-quarter earnings of 48 cents a share, up 54% from a year earlier and 20% better than what analysts had expected. The news sent the company’s stock up $4.25 to $25.25 on the New York Stock Exchange, a 20% gain for the day.
Also rocketing was Milpitas, Calif.-based Creative Technology, whose products enhance sound and other aspects of IBM personal computers. Rocketing sales pushed the firm’s earnings to 55 cents a share in the quarter, far above Wall Street’s 43-cent estimate. Result: The stock leaped $5 to $29.50 in wild NASDAQ trading.
In recent weeks there have been plenty of other examples, as fourth-quarter earnings have rolled out. And the action hasn’t been limited to tech stocks. Some banks (Wells Fargo), brokerages (Charles Schwab) and medical equipment firms (U. S. Surgical) have seen better earnings reports greeted with virtual buying stampedes.
Some of the buying stems from panicked “short covering” by traders who had bet these stocks were going lower, not higher. But in general, investors are hot to chase any company that appears to be on an earnings growth fast track.
Though one might assume that would always be the case, it wasn’t for much of last year. To be sure, many firms reported lousy earnings in the first half of ’92 as the economy struggled. But even many of the good reports got scant notice, pros complain.
Stu Roberts, manager of the Montgomery Small Cap stock mutual fund in Denver, says that until last October, “everybody was worrying about the election, Ross Perot and the supposed recession.” The things that should have mattered in picking stocks--such as earnings--didn’t, he says.
“Whenever investors become obsessed with big macro issues, you might as well just go on vacation” if your discipline is fundamental, company-specific investing, Roberts says.
By October, however, as the election outcome seemed assured--and as strong third-quarter earnings reports began to trickle out--investors’ interest in bona fide growth stocks resurged.
Now fourth-quarter earnings also look very good overall, putting many more investors in a buying mood. Ben Zacks, whose Zacks Investment Research in Chicago tracks corporate earnings, says that of 610 companies reporting fourth-quarter results so far, 59% have either matched or beaten analysts’ expectations.
Louis Navellier, whose Navellier & Associates in Incline Village, Nev., is a major growth-stock investor, says that of 400 stocks on his potential buy list, he counts 215 as showing “awesome,” high-double-digit earnings growth. Usually, he says, maybe 125 stocks would fit that designation.
“I think this is because the (economic) recovery is so strong,” Navellier says. And the companies benefiting most are smaller firms, he adds. He names such relative unknowns as Cherry Corp. ($30.50, NASDAQ), a maker of electrical-switching products for industry, and SCI Systems ($23, NASDAQ), a maker of specialized computer systems for government and others.
So if the earnings are coming in for these companies, and investors are buying the stocks accordingly, what’s the problem? It’s who’s buying now, and how high is up. The momentum investors are largely chartists--they enter the market in droves when they see prices going vertical. Basically, many of these investors are just trend players: If the trend is up, they want on board. But if the trend stalls, they leave, and quickly.
The last time the momentum folks were living it up was exactly a year ago--just before the market in general and small stocks tumbled.
This time around, the party could last a little longer, because money is pouring out of aging blue chips and into young growth stocks. But typically, when stocks begin to leap 20% or more in a day on desperation buying, it’s time to be careful.
Buying because of good earnings is the right thing to do, if you’re a long-term player. But momentum buyers don’t think long-term. They may leave your stock suddenly for no reason. If that happens, would you have the guts to stay put?
Earnings Count--Again
Unlike the pattern for much of 1992, investors are taking note of--and rewarding--good earnings reports. Some of Thursday’s earnings surprises:
Quarterly EPS: Company Est. Actual Stock close and change Briggs & Stratton $1.32 $1.62 $52 7/8, + 1/4 Cirrus Logic 0.44 0.46 39 1/2, +1 7/8 Computer Associates 0.40 0.48 25 1/4, +4 1/4 Creative Technology 0.43 0.55 29 1/2, +5 Intl. Game Technology 0.26 0.29 59 5/8, + 3/4 PNC Financial 0.61 0.61 31 3/8, + 1/2 Silicon Graphics 0.29 0.31 30 1/2, +1 7/8
EPS is analysts’ consensus earnings per share estimate.
Source: Zacks Investment Research
