A regional airline missed its earnings by 16 cents and the stock went up almost seven dollars.
Say somebody handed you that report an hour early. You knew the miss was coming, you knew the size of it, and you shorted it.
You got run over anyway.
That’s the part nobody wants to hear. Having the number doesn’t help you. The number is not the trade.
But there’s one filter that would have kept you out of that mess entirely, and I got it standing in my father’s office when I was eight years old.
Never short a low multiple
Never short a stock with a price to earnings multiple under 10. Never.
That’s for dummies and it will bankrupt you. I’ve said it a dozen times and people do it anyway.
The price to earnings multiple is just what you pay for a dollar of the company’s profit. Under 10 means the market has already given up on it, and that’s exactly the problem.
There’s almost no room underneath a stock like that. There’s a mountain of room above it.
Take that airline. Multiple of 10, and if the market decided tomorrow it deserved a 20 handle, where does that put the stock? Roughly double. You’re short into that.
I don’t care about your charts. They’re worthless here.
Where I got it
Guys like Dreman and Zweig used to come through my father’s office when I was a kid. Eight, ten years old, sitting there listening.
They told me the same thing every time. Buy the low multiples.
That’s how they became billionaires. Not by finding the exciting story, by buying the boring number.
Low multiple stocks don’t fall very far. And when they finally go up, they go up a long way.
The other half of the rule
Sell your stocks when they’re up.
I have a friend who owned a chip name from 50. It ran to 125 and he called me at seven in the morning asking what he should do with it.
I told him to sell all of it. He sold the whole position pre-market at 128.
He texted me a thank you.
Now here’s why that call was easy. That stock had gone from 20 to 130. At that price it isn’t priced for this quarter, it’s priced four years out.
So what happens when they report? If the numbers are good it’s already in the stock. If the numbers are bad they destroy it.
We call that a lose-lose. There’s no version of that print where you win, and it has nothing to do with what the company actually earned.
It beat, by the way. Reported 42 cents, better than the street wanted. Reversed about 20 points intraday.
Beats get sold, misses get bought
Same week, another company reported good earnings on a 16 multiple. Not cheap, not expensive, priced about right.
Stock dropped 6%.
That’s momentum-based dispersion selling, which is a fancy way of saying algorithms beat down the weak names without doing one minute of research.
Isaac Newton figured this out before anybody had a chart. An object in motion stays in motion unless something stops it. The selling was already moving, so it kept moving.
So stop trying to work out what the report means. Beats get sold and misses get bought and it’s weird and it’s hard to figure out, which is exactly why you don’t sit there trying to figure it out.
What to do instead
Two rules and you’re most of the way there.
Don’t short cheap. If the multiple is under 10, that stock is somebody else’s problem, not your short.
And take money when the market gives it to you. A stock that’s run four years forward is not a position, it’s a lottery ticket you already won and forgot to cash.
One more that costs you nothing. Don’t trade in the first half hour. I got that one from Corey Rosenbloom and Tony Rago years ago and I’ve never broken it.
That’s the name of that tune.
Professor Jeffrey Bierman
Creator of the Genesis COG System
