We’re seeing many companies announce better-than-expected trading updates and companies that are 'ahead' of broker forecasts. Usually, this means a business has traded well within the specific reporting period. But we are in unique circumstances. In the midst of the crisis when all bets were off, companies put out ridiculously low forecasts and brokers were bearish. That means that when a company reports that it is 'ahead of expectations', the company is trading ahead of these rather low forecasts. Therefore, is it a real beat?
Smart boards know that is far better to underpromise and overdeliver. A company that promises and fails to deliver will see the board lose trust and credibility, and this in turn can affect the share price.
It’s clever to guide low and beat. Games Workshop (GAW) has continuously guided its house broker down over the years only to blow those expectations out of the water, resulting in an earnings upgrade cycle where brokers fail to keep up with events. This propels stocks higher – until expectations become so high that they become unachievable.
It's good news that companies are trading well. But always look at the prior year comparisons and the pre-Covid comparisons to get the true idea.
One company that laid out a better idea of its trading last week was Fulham Shore (FUL). This is a restaurant chain that owns the popular Franco Manca brand. The update mentioned that the first week of lockdown ending saw sales ahead of the same week two years ago in April 2019. That’s impressive given that restaurants can currently only serve outdoors. However, one week does not a year make, and not all restaurants have decided to open and provide outdoor seating. The increased demand and reduced supply may have led to this bumper week, and while the company is right to be excited about its future, we cannot realistically extrapolate from one week.
Capital is nevertheless optimistically flowing into equities and pressing them higher with many stocks printing higher and higher. At some point, I expect to see a sharp pullback. How the market responds to this will be crucial to the market’s overall direction. One thing I have learned is that I am smart enough to know that I’m not smart at all, and I should just let the charts do the talking. Trade what you see and not what you’d like see.
One stock that has been on my radar for several years is Eagle Eye (EYE). This is a company that has an impressive board, including Tesco old hands Tim Mason and Sir Terry Leahy. Tim was the architect behind Clubcard and Sir Terry Leahy presided over Tesco’s expansion when retailers enjoyed fat margins (this was before the discounters and online shopping shredded the company’s margins from Finest to Value).
It came to the stock market in May 2014 and spent around half of its life underwater until 2020. The company is a digital promotions software-as-a-service (SaaS) technology company. It allows retailers, grocers and brands to set up digital promotions in the form of coupons and competitions both to drive traffic and increase loyalty through its unique platform called Eagle Eye AIR. The company recently turned cash flow positive and this was the trigger for the rerating.
Chart 1 shows the price action from October 2015 to April 2019. I have marked an arrow in September 2016 where I bought into the stock for a trade, selling within a few weeks for a near-50 per cent gain. The company had appointed Tim Mason from non-executive to chief executive in a strategic decision to drive growth. There was also talk of an international growth strategy, and the stock had fallen and stopped falling. It was sheer luck that the price rallied as hard as it did, but my downside on the trade was small. I will always have a soft spot for Eagle Eye because it was this trade that showed me that full-time trading was achievable and not just a far-away dream. By capturing quick trades consistently, it would be enough to equal my meagre salary, and within a few weeks I had turned that dream into reality. 2017 saw a sharp rally for Eagle Eye, but from its peak of 320p it trailed all the way down to as low as 100p.
I’ve marked a red line here to show support.
It would be another three years before I got involved with Eagle Eye, although I followed the story through the RNS announcements. It’s always worth keeping track of companies because when the facts materially change, the market can be slow to react. These often provide excellent opportunities to get in early while the market is still asleep.
Chart 2 shows an example of that. In July 2020, the company posted an ‘ahead of expectations’ RNS and a swing from net debt to net cash – showing that the company was no longer reliant on a ‘keep the lights on’ placing for cash injections. I believed this would trigger a rerating of the stock and starting buying from the bell in the bottom arrow. The arrow above shows where I added to my position – we can see that despite the rally the stock did not give much back (a sign of strength) and so I averaged up. The arrow above this is where I closed out my position into buying appetite for a near-150 per cent profit.
However, it’s clear that I left money on the table here and I intend to buy back at 505p (more than 25 per cent above my sell price) to try to ride the trend further. It can be psychologically difficult for traders to buy back higher, but next time you find yourself in that position you should ask yourself: do you want to massage your ego, or do you want to make money?
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