Booyah Breakdown: After Hours on the Street
Tracy Byrnes
02/03/07 - 10:33 AM EST
Timing is everything in life. You have to find just the right moment to tell your boss you're quitting. You have to create that picture-perfect moment to propose to your girlfriend (or boyfriend). And make sure you have a cold beer ready when you let your spouse know you've wrecked the car.
Same should hold true for earnings announcements. Yet there seems to be inconsistencies.
Take Thursday, Feb. 1, 2007. Before the market opened,
Exxon Mobil (XOM Quote) reported a 4.3% drop in fourth-quarter net income amid lower energy prices. This was despite the fact that the company had taken in the largest annual profit in U.S. history. Then around 10 in the morning, agriculture giant
Archer-Daniels-Midland (ADM Quote) reported that second-quarter earnings rose 20% as higher ethanol, starch and sweetener selling prices were partially offset by an increase in corn costs.
And finally,
YRC Worldwide (YRCW Quote) reported after hours that its fourth-quarter profit fell 40%, due mostly to weak freight demand during that period.
So is there a reason behind when companies report earnings? Is it coincidental that Exxon and ADM chose to share their good news early in the day, while YRC waited until the markets closed to give their bad news?
Many of you have asked about the psychology behind the timing of earnings announcements and why some companies report during the day and others wait till after hours. Believe it or not, there is some method to the madness involved with when a company reports earnings, and the Booyah Breakdown is going to run through that rationale today.
Ok, Everyone's Gone!
Reporting after hours used to be reserved for companies with bad news. "The idea was to report at a time when not many people were looking," says Ed Ketz, associate accounting professor at Penn State University.
But two things happened that blew that theory out of the water.
Investors started to assume that any after-hours announcement was going to bad news. So regardless of the information, the company's stock took it on the chin.
Pre- and post-market trading became available. So traders started to stick around after hours. Now there was no hiding from the markets, and companies could no longer hide their bad news.
Earnings Gyrations
Whether the news is good or bad, a company's quarterly earnings release can cause huge gyrations in the stock price, according to Dirk Van Dijk, director of research at Zacks Investment Research.
But a stock doesn't have to go to extremes to move, which can happen just by meeting analysts' expectations. Take
Google (GOOG Quote). The company reported that fourth-quarter profits tripled, but its net revenue was just slightly above analysts' expectations. As a result, the stock fell in after-hours trading because investors were hoping for a blowout.
So clearly earnings releases can cause big stock moves.
Now if that's the case, the more liquidity in the stock, the better to smooth out those gyrations, according to David Goldenberg, an associate professor of investments and derivatives at Rensselaer Polytechnic Institute's Lally School of Management and Technology. Goldenberg refers to a study that shows that prices are more efficient and that more information is revealed per hour during the trading day than after hours. So more companies should, in theory, report during trading hours. But that has not been the trend, as almost 90% of all companies report before or after hours these days.
It's Better After-hours
And there's good reason for it.
"I prefer it when companies report after hours. It makes for more orderly trading, instead of many fluctuations that are meaningless," says Ashok Ahuja of Icor, a Westport, Conn., firm that operates a technology hedge fund. He says about 95% of the technology companies he follows report around 4:30.
Releasing earnings when the markets are closed gives investors time to digest the information. It allows them to think through the news and avoid rash decisions. "It also puts everyone on more of a level playing field. It's very much in keeping within the spirit of fair play," says Van Dijk.
Of course, reporting when the markets are closed doesn't necessarily prevent price spikes because of surprising news. But it does prevent knee-jerk reactions.
Perception is Everything
Regardless of when companies report their earnings announcements, though, it's important they stay consistent. "Studies have shown that if a company typically reports 30 days after the close of its quarter but instead reports 35 days after, the market will presume bad news, just because of lateness," notes Ketz.
And while there are no SEC guidelines as to what goes in an earnings release, (see
this previous story for more on that) the SEC will step in if a company waits too long to report its news to the market.
So timing does play a role when disseminating financial information, and now you understand some of the rationale.
