Trading strategies for earnings season

Trying to profit from news is among the more delicate and potentially rewarding tasks for a trader. The most obvious cases of trading news are based on results. The trader hopes that a stock will deliver results that are either better or worse than consensus and takes a position accordingly, a session or two before the results are due.

A variation on this is to trade other stocks in the same sector based on early bird results in the peer group. For example, let’s say that one automobile stock has already delivered results that are better or worse than consensus expectations. One could logically expect that other auto stocks, which are yet to declare results, will also follow the same pattern and take positions in them accordingly. This strategy seems to be especially effective when one is trading cyclical sectors; while one business may do better than another, trends tend to be similar because cyclical factors affect them all.

In order to take this sort of trade, the trader must do a certain amount of research. First, he should have an idea of what the consensus expectations are – this can be ascertained from compilations of research reports. He should also have some idea of where the stock could go on an adverse movement. This is in order to set a loss limit.

Third, he needs a clear picture of the timeframe of the trade. If his initial premise was incorrect, he will probably close out the position for a loss. But when his premise is correct, does he hold the trade for one session, or for two or three, after the results are declared? The second quarter (Q2) results season is kicking off this week and Infosys will be declaring its numbers on Friday. The response to the Q1 results and advisories were disastrous, and the stock tanked to its 52-week low. However, it has also seen a major recovery, rising almost 20 per cent since then. The consensus expectations are slightly on the upbeat side. More than the “raw results”, the market will be interested in revenue guidance for the financial year. Infy’s guidance not only affects the second-largest Indian IT stock; but it is also liable to influence investor attitudes to other IT businesses. Interestingly, TCS has outperformed Infy, and the IT industry, by a large margin and TCS will declare results next week.

Do you think Infy will outperform consensus expectations? If so, there’s room for the stock to move up sharply, perhaps until the Rs 2,750-2,800 levels. If it gives muted revenue guidance and cuts annual estimates again, it could also fall sharply till around Rs 2,250-2,300. It will also influence movements in the mid-sized IT stocks, which will declare results in the next few weeks.

The author is a technical and equity analyst