Brian's Dunks

Stock List

Three stocks on our newest stock list, Brian’s Dunks, reported earnings after the bell on Tuesday. All had mixed results and were down in after-hours trading. We wanted to provide an update and use the opportunity to discuss the quantitative process we use in our stock selection to put everything into context. Benjamin Graham said in the short-term markets are voting machines, and in the long-term they are weighing machines. We try to get exposure to names early, before the rest of the market realizes that these are good stocks. Markets are a discounting machine, so the earlier you are the better. If you’re bidding on a stock that everyone already knows is great, then odds are the alpha is pretty limited compared to other opportunities.

Dunks Update

My work on these names indicated an early positive signal (P+ in the chart above). Therefore, these mixed earnings results and some weak guidance are not necessarily negative surprises to us. Remember, that our time horizon for investments selected with my model is 12-18 months. So, weakness like the notable punishment that PayPal got afterhours and in Wednesday’s trading should be considered a buying opportunity on this time horizon. The early positive signal is not a tactical tool, so when it flags names, they may still have some shaking out to do before the earnings progress we anticipate fully materializes. Our model leverages the research of the entire sell-side analyst community to detect trends early.

Starbucks ( SBUX -0.09% )

Starbucks ( SBUX -0.09% ) missed on EPS by 10% on an estimate of $0.80 per share. Revenue came in slightly above. The company cited rising costs from inflation, supply-chain difficulties, and the high cost of sick-leave associated with the Omicron variant. A major sales hit in China, which is dealing with COVID with a zero-case policy, also contributed to weakness. Starbucks is one of my Mid-Range Jumpers. The stocks on this list have greater risk than Dunks, but also often great reward as well. These negative developments in the stock appear mostly temporary, although the company did anticipate inflation would  remain a thorn in its side for the rest of 2022. The costs associated with Omicron are a one-time hit. The stock initially was down about 5% after the miss, but recovered most of that before the open. Thus, we are not changing our PLAY rating on SBUX for the time being. SBUX was down 1.19% on Wednesday at 2pm.

General Motors ( GM 1.70% )

General Motors ( GM 1.70% ) has gotten a lot of attention recently because of its major investments in EV production. It also recently made headlines when CEO Mary Barra forecasted that her company would overtake Tesla ( TSLA -2.23% ) in EV sales sometime around the middle of this decade. The company met EPS expectations but missed on sales. The company said in guidance that it expects its 2022 earnings to be at or near record earnings as the stresses on production from chip shortages alleviate into the year.

The company has gone full throttle into EV. It is boosting battery production capacity and will be releasing over 30 electric models in the coming years. GM also has a sprawling marketing and credit infrastructure to help boost demand for them. As we mentioned, the P+ signal is a second derivative turn that indicates that even though things are still negative on an absolute basis, they are decidedly getting “less bad.” We are still holding a PLAY rating on General Motors. Despite the sales miss, the company’s shares were up nearly 1% when we went to press, likely on strong guidance and EV excitement. GM was down 2.3% on Wednesday at 2pm.

PayPal ( PYPL 0.69% )

PayPal ( PYPL 0.69% ) got slammed in afterhours trading after it had a mixed earnings report and guidance that fell short of consensus expectations. The company’s management mentioned that they believed the eBay transition was also masking some strong elements of their business. As eBay builds its own payments platform, it seems to be dragging business away from PayPal.

The company’s sales matched the Street’s expectations, so most of the carnage is likely due to the weak guidance. Notably, the company also announced an about-face on its user growth strategy. Instead of pursuing user growth, it wants to increase the quality of features available to users and the value per user generated. The major divergence that probably accounted for the shares being punished so severely in after-hours trading was that the company’s expectation for first quarter earnings was only $0.87 compared to the consensus expectation of $1.16, a 25% difference to the downside.

The company’s payment volume came in slightly low. Management said cross-border payments have been slowed by supply-chain issues and that some consumers may be spending less due to inflation. We are still maintaining this stock as a Dunk and think that this company is in the process of bottoming after an ungainly fall from its 52-week high of around $310. We maintain a PLAY rating on PayPal despite the weak guidance. The stock was down 25.8% at 2 pm on Wednesday.

Conclusion

Remember, our quantitative process is designed to help investors stick to a strategy and not get unglued because of market noise. We anticipate that these three companies will have positive developments in their earnings over the next 12-18 months that will cause price appreciation. Furthermore, based on our analysis, all three companies have an appealing risk/reward trade-off. Earnings are what ultimately drive the prices of corporate stock. We also would note that guiding conservatively, given the plethora of risks to the economy, is probably a wise management strategy. We aim to keep you regularly updated on our Dunks picks.

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