Why Do Share Prices Fall When Company Results are Positive?

THE WEEK: Morningstar columnist Rodney Hobson laments the unpredictability of the stock market

Rodney Hobson 12 August, 2016 | 9:46AM
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One of the great skills in successful stock market investing is assessing companies whose shares fall immediately after results are announced. The reaction is fair enough when the figures disappoint or the outlook is doubtful but quite often the tumble is due to profit-taking rather than the figures themselves.

I felt that a case in point was Legal & General (LGEN), the insurance giant that reported a 10% rise in first half operating profits and a 16% increase in the interim dividend to 4p, which was higher than expected.

Although the profits were distorted by one-off factors, the underlying performance was strong, particularly in terms of cash generation and funds under management. Yet the shares opened 5% lower and were off 6% by the end of that day.

There were, admittedly, concerns over lower profits from investment management and general insurance but in my view the share price fall had more to do with a rise from 167p to 218p in the four weeks running up to the announcement. There was a chance for short-term investors to take a nice profit.

However, it was now an opportunity for long term investors, who thought that they had missed their chance, to consider buying into a solid company with consistently decent performance.

Equally intriguing is when shares that have taken a bashing soar after better than expected results. In such cases I am reluctant to chase the shares any higher. If I want to invest I would rather wait hopefully for the shares to settle back, cursing my bad luck or judgement in not acting sooner but prepared to accept that I might had missed the opportunity altogether.

As illustration – though it’s not a company I personally have ever considered investing in – let us take DFS (DFS), the furniture company where everything seems to be always 50% off. I’ve avoided the shares because the recurring cut-price offers convey the impression that the furniture is rubbish and the company is desperate, a perception disproved recently when I sat on one of their sofas for the first time and found it remarkably comfortable.

DFS this week gave a trading update that reported revenue up 7%, with the promise that profits were at the upper end of market expectations after what was described as a record year. Crucially, it joined the growing list of companies to confirm that there had been no immediate impact from the referendum vote.

The shares had slumped from 250p in November to 180p last month and the results were greeted with a 13% leap. Those who resisted the temptation to get on the bandwagon could have bought more cheaply the following morning, when the almost inevitable reaction clipped 1.3% off the shares.

That was not the best time to buy, though. The great opportunity came just after the Brexit vote, when DFS shares fell off a cliff. It’s remarkably easy to forget that the idea is to buy when shares are cheap, not when they are more expensive.

I’m Sorry, I’ll Write That Again

Sorry to labour the point, but putting your money into shares ahead of the referendum has just proved an even better idea than I reported last week. I was most surprised to see the FTSE 100 index cross 6,800 points; it was even more of a shock to see it toying with 6,900, a level last seen on 3 June 2015 when Brexit was still a twinkle in Nigel Farage’s eye.

The FTSE 250 index, which took a bigger battering at the end of June, is back to August 2015 levels.

Your pound in the bank is heavily devalued but not your shares. What was that about sell in May? The 100 index is up about 700 points since the beginning of May; the 250 is a full 1,000 points higher. While the gain in the midcaps is less than for the blue chips in percentage terms, it’s still a lot better than holding cash. And that’s without adding in any dividends declared in the meantime.

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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Securities Mentioned in Article

Security NamePriceChange (%)Morningstar
Rating
DFS Furniture PLC116.00 GBX0.00
Legal & General Group PLC231.30 GBX1.67

About Author

Rodney Hobson

Rodney Hobson  is a columnist for Morningstar.co.uk and author of several investing books, including The Dividend Investor and How to Build a Share Portfolio.

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