After its recent battering, is sterling any closer to bottoming? There is potential for a short-term rebound. Deutsche Bank notes that this has been the third largest sterling sell-off since 1990 while positioning is extremely lopsided, with short bets on sterling declines hitting record levels.
Nevertheless, it recommends that traders remain short on sterling, citing deteriorating fundamentals, continued overvaluation – Deutsche calculates sterling remains 8 per cent overvalued on a trade-weighted basis – ongoing political uncertainty and a current account deficit higher than all developed markets.
Since the Brexit result, Stocktake has cautioned that sterling bounces were likely to be short-lived, noting the currency had suffered much greater falls during past crises. That remains the case, says Merrill Lynch. Compared with past shocks, the current bear market is "in its infancy", both in terms of duration and percentage declines.
However, Merrill is tracing sterling’s decline back to the June 23rd Brexit vote, when sterling traded at $1.50. Sterling was actually declining long before then, peaking at $1.71 in summer 2014. It has declined about 30 per cent since then, notes Credit Suisse, in line with the very worst bear markets of the past.
Sterling may well go much lower, but bears should not assume this is a one-way bet.
Mixed signs for earnings season
US earnings season got off to a poor start last week,with aluminium giant Alcoa suffering its biggest one-day fall in five years after missing estimates.
Alcoa has suffered earnings-related double-digit percentage declines on just three occasions, notes Bespoke Investment Group; the S&P 500 tumbled 7.5, 2.6 and 6.5 per cent during the remainder of those three earnings seasons. The consolation is that Alcoa’s reputation as an earnings bellwether has waned in recent years, with investors instead looking to technology and financial earnings for market-wide clues.
There are some hopeful signs. There have been few earnings warnings: the ratio of negative to positive earnings pre-announcements is well below last year’s levels and below the long-term average. Although a small earnings decline is forecast, companies invariably beat low-balled estimates, meaning the earnings recession – earnings have declined for five consecutive quarters – should finally end.
On the downside, Goldman Sachs says the variables that determine earnings surprises indicate the number of companies beating earnings will be lower than usual. Profit margins, which have defied bears’ expectations by remaining at record highs, may be contracting. Presidential election uncertainty may have constrained corporate spending in recent months, while the 14 per cent earnings growth projected for 2017 continues to look unrealistic.
The earnings recession may be over, but any recovery looks like being a modest one.
Betting against fear and greed
Trading around company earnings has always been a treacherous exercise, but a recent study suggests a contrarian approach can be a profitable one.
The paper, Fear and Greed: A Returns-Based Trading Strategy around Earnings Announcements, examined tens of thousands of instances over the last four decades where individual stocks saw sharp upside or downside moves in the week prior to earnings announcements.
The researchers’ strategy was simple: buy decliners on results day and short (bet against) the gainers, closing all positions the following days. Although trade gains tended to be modest (1.3 per cent over a two-day window), they comfortably exceeded transaction costs, yielding net annualised gains of 95 per cent since 2000.
What’s going on? The authors suggest ordinary investors believe sharp pre-earnings price moves are driven by insiders with private knowledge. Eager to get on board, they trade in the same direction and the stock moves too far, too fast. The actual earnings announcement then serves as a “reality check” on fear- and greed-driven trading.
In both bull and bear markets, it usually pays to bet against fear and greed: the strategy was profitable in 40 of the last 42 years.
What’s in a name?
All listed companies have a ticker symbol. Google’s (GOOG) is easy to remember, Microsoft’s (MSFT) is straightforward and Ferrari’s (RACE) is catchy. Should investors care?
Yes, say the authors of What's a Name Worth? The Impact of a Likeable Stock Ticker Symbol on Firm Value. Examining the performance of 1,959 stocks over three decades, the researchers found companies with likable, easily pronounced tickers enjoyed higher valuations. This may be because likable tickers attract more investors (more liquid stocks are associated with higher valuations) or it may be a case of mispricing, with investors unconsciously overvaluing companies with clever tickers.
The valuation premium – about 1.3 percentage points – isn’t extreme, but it’s enough to matter.
In numbers
25:
Just 25 per cent of retail investors are bullish, according to the latest American Association of Individual Investors poll.
50: The number of consecutive weeks where bullish sentiment has been below its historical average.
84: Sentiment has now been below average levels for 84 of the last 85 weeks, a truly unprecedented level of investor apathy.
