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Saturday, July 14, 2012 -- In this chapter, we will cover how Apple's stock tends to perform on earnings regardless of how strong or weak the earnings report happens to be. This report is a historical analysis of how Apple has performed on the day, and weeks following its earnings results. Here, we don't really care about the strength or weakness of Apple's earnings or how the report has impacted the price appreciation of the stock price. Instead, this report focuses very broadly on answering the question: should we hold Apple through earnings? The answer is clearly yes.
Axiom #1: Apple Rarely Sells off on Earnings
The very first thing that every Bullish Cross member should know about Apple's earnings is that the stock very rarely sells off on its results. We're going to show you in great detail how since fiscal Q1 2006, Apple has gapped up on 80% of the earnings reports and the 20% that were down is really very predictable.
Axiom #2: Apple hits High of the Day at the Open of Trading in the Session after Earnings
The second most important thing that every Bullish Cross member should know about Apple's earnings is that in 90% of the cases, Apple immediately hits the high of the day right at the open of trading on the session after it reports earnings. In fact, since the March 2009 lows of the financial crisis, Apple has gapped up on 10 of the last 12 earnings reports. But get this. Out of those 10 reports where the stock did gap-up on the session after earnings, Apple hit the high of the day right at the open in 9 out of those last 10 cases. The last time Apple didn't hit the high of the day right at the open of trading was all the way back in Q1 2010. Every other quarter before that and since then has resulted in Apple opening at the highs of the day, and then selling-off all day long. Sometimes the stock loses 3-4% right off the open. In some cases, we've seen the stock gap-up 5%, lose that throughout the day, and then CLOSE IN THE RED! So sell at the open is the moral of the story.
Axiom #3: Apple Sells-Off b/w 4%-12% over the 4-5 Week Period after the Earnings Gap-Up
The third most important thing that every Bullish Cross member should know about Apple's earnings is that in 9 out of the last 10 quarters, Apple has sold-off anywhere from 4%-12% during the 4-5 week period from the gap-up opening high set on the day after earnings. So the idea here is this. If you sell Apple's stock right at the open of trading the day after it reports earnings, you would have the opportunity to buy it back at a 4%-12% discount, 4-5 weeks later. In Apple's recently reported fiscal Q2 2012 for example, Apple was 11.3% lower from its post-earnigns opening price three weeks later. We will discuss the details of this analysis exclusively in Chapter 2.
Axiom #4: Apple Rallies Double-Digit Gains b/w Week 5 and the Next Earnings Report
The fourth axiom that all Bullish Cross subscribers should nail down cold is that Apple has recorded double-digit gains between where the stock closed five weeks after reporting earnings until the close of trading ahead of the next earnings report in 11 out of the last 12 quarters. So what these four axioms demonstrate is that the best thing to do with Apple is to buy it exactly at five weeks after it reports earnings, hold it until the next earnings report, sell the stock the next day when it likely gaps-up, then buy it back five weeks later. We will discuss this seasonality in very great detail in chapter 3.
But the bottom line here is this. Apple has gapped up on earnings in 80% of the cases. That gap-up is almost always the high of the day in 90% of the past cases. So you want to sell the open of trading because that is likely the high of the day for Apple. But what you will also come to discover is that Apple tends to be something like 4-12% lower than that opening price about 4 to 5 weeks later. But get this. In 91.7% of the past post-crisis quarters -- that's more than 9 out of 10 times -- Apple has recorded double-digit gains between week 5 and the close of trading ahead of the next earnings report. So that means 80% chance of a gap-up after earnings, 90% chance that gap-up is the high of the day, 90% chance you see a 4-12% sell-off between that gap-up high and the next four/five weeks of trading and a 91% chance that you will see double-digit gains from week 5 until week 13/14 when Apple closes ahead of its next earnings report.
This paragraph above generally encapsulates what we need to know regarding Apple's seasonal analysis during the average quarter. I cannot begin to explain how important it is that you have this material mastered. Knowing this material gives you a ton of background information necessary to be able to fully and accurately analyze Apple's technicals, fundamentals, trending and earnings. It also plays a key role in devising short-term spread strategies. The data contained in the tables below is where you will find the nuances of the analysis which will give tremendous color to the different probabilities stated above. As high as these probabilities are, in most cases, the times that things went wrong, they were predictable and explainable. Meaning, we know how and when to listen to this analysis.
For example, what those of you who pay close attention will come to learn is that the reality is Apple simply just always gaps-up on earnings. The six total times that Apple didn't gap-up were the result of extenuating circumstances. There are confounding variables in the analysis. What's more, you will come to learn that some quarters are much stronger than others. Believe it or not, most of the sell-offs that did actually happen, all took place in the same two fiscal-quarters.
In fact, let's take a look at the analysis. The table below shows how Apple's stock has performed on the ensuing session, the ensuing Friday and the ensuing four-week period after it has reported its earnings in every single quarter since 2006. This table shows how Apple has performed on the previous seven fiscal Q1 and Q2's and how it has performed on the previous six fiscal Q3's and Q4's. The yellow highlights in the table represent those days where the opening price was at or very close to the high of the day. Notice how in most sessions where the close of trading was green, the open was pretty much the high of the day.
These tables blow answer two key questions. First, it answers the question of "how often Apple gaps up on earnings." Secondly, these tables answer the question of "what type of move would we have missed or what type of discount would we have gained if we had not played earnings at all." It shows how Apple has performed from the closing price ahead of the results until the next day, that Friday, 1-week, 2-weeks and 4-weeks later. Notice that even though Apple gaps-up 80% of the time on earnings, even if you decided NOT to play earnings at all, the stock was lower than the close ahead of earnings in 61.5% of the quarters since 2006. That means in half the time, you would have had the opportunity at some point over the ensuing 4-week period to buy it back cheaper. Obviously, that's still not anywhere even as close as profitable as holding through earnings, selling it at the open and then buying it back 4-weeks later.
Please notice that these tables have absolutely NOTHING to do with Axiom #3. Remember, Axiom #3 has to do with how Apple has performed AFTER the earnings gap-up has taken place. Meaning, it assumes you held through earnings, sold right at the gap-up the day after earnings and then waited to buy back 4-weeks later. The performance data in these tables below, on the other hand, show how Apple has performed between the close of trading AHEAD of its results and the close of trading the next day, that Friday, 1-week, 2-weeks and 4-weeks later. Axiom #3 has to do with how Apple has performed AFTER it has reported earnings and gapped-up the next day while this analysis below deals with how Apple has performed from BEFORE it reports earnings. It answers the question, "what would we have gained (or lost) by selling Apple at the close of trading ahead of its results thereby not playing earnings at all." So again, we will cover Axiom #3 in more detail in Chapter 2 including publishing tables in support of Axiom #3. Don't confuse what these tables below are demonstrating and what we are demonstrating in Axiom #3 as they are unrelated. Read Axiom #3 more closely.
Fiscal Q2 & Fiscal Q3: The Perfect Quarters
Now the first thing you should notice about the ables above is that Apple has never gapped down on fiscal Q2 earnings in over 7-years now. The second thing you should notice is that Apple has only ever gapped down on fiscal Q3 earnings once (Q3 2008) since 2006. And that one time was just ahead of the financial crisis. Things were very bearish back then and the broader market was on a huge slide all summer. So it wasn't really that unexpected to see Apple gap-down on fiscal Q3 2008 earnings ahead of the results.
So in reality, if you simply just discounted the fact that 2008 was an extenuating circumstance, Apple has pretty much never really gapped down on fiscal Q2 or fiscal Q3. Almost all of sell-offs happened in fiscal Q1 (January earnings) and the last two years of fiscal Q4 (October earnings)
All of the Sell-Offs are Due to Fiscal Q1 Mania
What you should also notice is that there are six gap-downs, but seven total red closes. In four out of the last seven Fiscal Q1's, Apple ended the sessions in the red even though it only gapped down on three.
And there's a very simple and straight forward explanation for the weakness after off-of fiscal Q1 earnings. Back during the pre-crisis era, Apple tended to follow a very strict seasonal trend that went even further back than 2006. The stock would skyrocket something like 80% to 120% between the months of July and January (2nd half of the year), head into January extremely overbought and then sell-off on the results. It was clearly a case of Apple following a pattern of rallying during the second-half of the year and then selling-off/consolidating during the second-half of the year. Typically, what we would see is Apple bottom right ahead of fiscal Q3 earnings in July, rally huge between July and January, and then top right ahead of January earnings.
As you will see in Chapter 4, this pattern was far more pronounced during the pre-crisis era than it is during this current post-crisis era. We still see this same pattern in today's market, but it's far less rigid and pronounced than it was back then. Back then, it was so obvious and straight forward. Sell Apple ahead of fiscal Q1 earnings, short the stock for 6-months, cover ahead of July earnings and then buy the stock for the next 6-months. Hugely profitable trade.
In fact, I remember fiscal Q1 2007 like it was yesterday. Fiscal Q1 2005, 2006, and 2008 were very much the same type of result. Yet, nothing exemplified the pattern better than fiscal Q1 2007 because of how flawless the earnings report really was. Fiscal Q1 2007 was the biggest EPS blowout in Apple's history and no other quarter has ever come close either before or after. While Q1 2012 was in the neighborhood, but Q1 2007 is just in a whole different dimension.
Just to give you an idea, the consensus EPS estimate for Q1 2007 was $0.65. The high whisper number was looking for Apple to report $0.80 given Apple's historical pattern. The delusional whisper number was around $0.90 based on nothing. Then those who like to day-dream would throw around comments like "imagine if Apple reportes over $1.00." Back then, Apple breaking $1.00 in EPS was a huge gaol for investors. Anyways, those people who were throwing around the $1.00 estimate were the "beyond delusional crowd." It was what I call the "daydreamer estimate." We all daydream of some incredible blowout number and watching Apple gap-up 15% on the results. Imagine if Apple reports a blowout number in Q3 and Apple gaps up from $630 to $700. That type of daydreaming.
Well, Apple reported $1.14 in EPS in Q1 2007. The stock blew out the daydreamer estimate for the first and only time ever. That would be like Apple coming out in Q2 2012 and reporting $17.00 in EPS when the consensus is at $10.00 and the highest independent is at $13.00. That's what happened in Q1 2007.
Yet, in spite of that, the stock still sold-off. And do you know what's interesting about that? The stock was halted in after-hours because the exchange thought the stock was going to gap-up uncontrollably with the full tropic-thunder blowout. But instead, the stock sold-off. Not because of poor guidance or anything like that. The stock had just gotten too ahead of itself. That is exactly what typically happened in every Q1 between 2004 and 2008.
So three out of the six gap-downs shown in these tables above, can really be written-off as an exclusive Q1 seasonal trend which has already changed in recent years. Those who were in the know back then, knew that the stock was going to sell-off no matter what. Moreover, the fact that those three sell-offs happened in the pre-crisis era sort of reduces their weight given how long ago they were. We're in a whole different environment now. If those sell-offs were the result of a miss on earnings or the result of weak earnings or the result of weakness in a product, that would be one thing. But I know for a fact that each of those fiscal Q1 sell-offs happened for the same exact seasonal reasons.
The Q1 2006 sell-off, for example, put in a high for the year on Apple's stock. I remember Apple reaching $86.40 just before earnings, and it didn't break that level again until October 2006 earnings when Jim Goldman on CNBC screamed about how Apple just devastated analysts estimates. The reason I remember the $86.40 number so clearly is because it took Apple so damn long to take out the highs that every investor had that number on their minds. It was 10-months of Apple trading under $86.40.
Thus, what you should take from this historical lesson is that even though Apple has gapped down in six out of the last twenty-six earnings reports, the reality is, three were highly predictable and for a known reason. You can just simply write those off. They weren't random sell-offs. When you think about it, the reality is this. If you discount those three reports, Apple is really 20 for 23. It has really only gapped down 3 times that weren't the result of Q1 seasonality over the last 7-years. Almost a decade. So is there really that much uncertainty as to what Apple will do on earnings on the average quarter?
The One Fiscal Q3 2008 Sell-Off was Predictable & Excusable
Then we have the sole fiscal Q3 2008 sell-off which though was partly due to weak comments from Apple's management, was mostly the result of skittishness in the markets ahead of the financial crisis. That means, in reality, we have two real sell-offs. Both happened in fiscal Q4. One took place in fiscal Q4 2010 and the other took place in fiscal Q4 2011. The first chart below shows what the S&P 500 was doing ahead of Apple's earnings in fiscal Q3 2008. Notice how extremely volatile the markets were for all of 2008. The second chart shows Apple's performance ahead of the results. Notice how Apple was sitting at multi-month lows on the day ahead of the results. It even briefly lost the 200-day moving average on the day it reported earnings and managed to eek out a gain.
So let's talk about the only two reports which happened in a relatively stable market environment and weren't the result of some distinct, clear and predictable seasonal trend. First, we have the fiscal Q4 2010 sell-off. I remember that one very clearly. It was a simple case of Apple getting way too ahead of itself. The stock rallied nearly $16.00 in the two sessions (5.24%) ahead of the results. It was trading well above its upper B-Band going into the results and was very overbought near-term sitting at an 83.4 RSI. We're talking extremes. Not just a normal pre-earnings rally. The stock had rallied from $235 in late August to a high of $319 going into earnings in October. It was a case of the stock going too far too fast. The report was stellar and the comments out of Apple were promising. The sell-off was very short-lived because of the fact that it was really more technically driven than anything.
Take a look at the two charts below which show just how overbought Apple was ahead of the results in Q4 2010. First, Apple not only gapped-up way above its upper b-band on the daily, it closed near the highs of the day ahead of the results. In just two sessions ahead of the report, Apple went from $302.50 to a close of $318.00. That is a 5.24% move in just two days. What's more, Apple rallied for literally 10 sessions straight ahead of earnings constituting a move of nearly $40.50 or 14.60%.
This after Apple rallied from $235 on August 27 to $295 on September 27 closing lower for only TWO FREAKING SESSIONS in the entire period. In a 20-session rally resulting in a 25.53% gain, Apple only closed lower twice. After a small pull-back, it then rallied an additional 14.6% over a 10-day period ahead of the results. The stock sat at an 83.4 RSI on the daily chart, gapped-up and closed 2% above its upper b-band on the day ahead of its results after adding 5.24% in two days -- and people are surprised that Apple sold-off on earnings? Apple hit a 90 RSI on the 60-minute chart on the day it reported its results. Trust me. If that ever happens again, we're selling ahead of earnings:
Then we have fiscal Q4 2011 which was a legitimate sell-off as a result of Apple falling short of analyst expectations. What you have to understand about the nomenclature on Wall Street is that a company is considered to have "missed" on earnings if it falls short of EITHER (1) its own guidance; or (2) analyst expectations. If a company handedly beats its own earnings estimates but falls short of the consensus estimates of registered Wall Street analysts, then the company is considered to have has "missed" on earnings according to (1) the financial press, (2) big investors, (3) mutual funds, (4) hedge funds, (5) all Wall Street banks, (6) financial accountants, (7) financial analysis, (8) all CFA designated analysts, (9) advanced traders, (10) hedge fund managers, (11) mutual fund managers, (12) sovereign wealth funds, (13) the swaps market, (14) any other money manager, and (15) all other advanced market participants. Apple is only considered to have missed on earnings if it falls short of its own guidance according to a handful of retail investors.
It doesn't matter if it was analyst error or weak earnings. In the market's eyes -- and this will never ever ever ever ever x infinity change A miss of analyst expectations is a miss, end of story. That's why Apple's stock sold-off on fiscal Q4 2011 earnings. Even though the miss was the result of analyst error, and not the result of weakness in sales/margins/earnings, it is still considered a miss.
There's no point in arguing with the nomenclature. You just have to accept the terminology in the industry, or argue with it and get left behind. Arguing with the nomenclature doesn't change anything, nor does it get you anywhere. What you do to rectify it is explain why what happened i.e. arguing why the miss was analyst error and not weakness in the company.
And in this case, the reason Apple missed in Q4 2011 was due to analyst error. But no one in the industry would frame the situation as "Apple didn't miss, the analysts did." That just makes you sound like an idiot who doesn't understand the terminology. No. Apple missed and missed big-time as a result of analyst error. Calling it something else doesn't change the fact that Apple's earnings were lower than the consensus. How does arguing with a fact do anyone any good? The nomenclature isn't going to change just because you want it to. If a company falls short of analyst expectations, it's considered a miss. End of story. It doesn't matter why, it's a miss nonetheless. If analysts want to make a company miss every quarter, they can do that and it would result in the stock selling off every quarter. Go see Dell during a 10-quarter stretch where the stock missed like every quarter.
Ok. So all-in-all, every sell-off could be written-off as being an extenuating circumstances with the exception of Q4 2011 when Apple missed. And even that quarter could have been predicted if you payed very close attention to how far above the consensus was on Apple's revenue. The consensus would have resulted in a miss in every previous quarter since the lows of the financial crisis except for one.
And even if you don't want to write them off, you still have to realize that Apple is flawless in Q2 and pretty much flawless in Q3. Collectively, between fiscal Q2 and fiscal Q3, Apple has sold-off a grand total of 1 time out of the last 13 quarters. That means in 1 out of every 7 years, Apple will sell-off in either fiscal Q2 or fiscal Q3. Pretty damn good odds when playing fiscal Q2 or Q3. The quarters where there should be caution is fiscal Q1 and fiscal Q4. Especially fiscal Q4 given the recent trend of two back to back sell-offs in 2010 and 2011.