Why You Are Completely Wrong About Forward Guidance Being More Important Than Results

I want to take a minute to address a pervasive but completely statistically unfounded belief that a wide swath of market participants seem to share. Like many beliefs of market participants, there is zero evidence to back this one up, it has been formed solely based on the availability heuristic.

When people hear that a company has lowered or raised guidance they assume that the movement in the stock is in some way correlated to that announcement, mostly because market participants are always looking for something to tie every little movement to so that they can sleep at night with the belief that they understand why they took that position home at night.

During my days at Geller Capital and Surfview Capital, and more recently at Estimize, I have read a good portion of the literature around the nature of pre and post earnings drift associated with different factors. Nowhere, ever, did I read any paper that statistically measured the association between guidance announcements and post earnings drift.

Nowhere. Ever. None.

Now don’t get me wrong, guidance changes can have a huge effect on stocks, and they can have a huge effect on the opening gap. I’m not dismissing the fact that guidance can impact how a stock trades. What I’m saying is that from a quantitative, systematic perspective, there is no correlation between changes in guidance in either direction and predictable post earnings drift on any timeframe.

On the other hand, there is bountiful proof that there exists a significant post earnings drift associated with a company beating or missing its expected earnings. Meaning…the market is, whether you agree with it or not, paying more attention in aggregate to beating or missing earnings than those guidance changes once the bell rings the next day. This quantitative research goes back several decades, and more recently Rice University published a paper showing results that prove the Estimize Consensus is the better benchmark for post earnings drift than the Wall Street consensus as reported by Thomson Reuters IBES.

You can find that paper HERE.

So please, stop with the whole guidance is more important thing. It’s not.

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