Opinion: Why predictions and speculations are killing the stock market
Published: Thursday, February 28, 2013
Updated: Thursday, February 28, 2013 22:02
The stock market is always subject to daily fluctuations, but there are always people trying to make sense of it. In order to help investors, stock analysts and firms look at certain metrics and try to make predictions about the company. These speculations are meant to help investors better evaluate companies, but instead they can often end up hurting stock prices and stifling company growth.
Apple is a prime example of a stock that is continually affected by speculation and analyst estimates. It has recently taken a substantial hit based on its latest earnings report for the first fiscal quarter of 2013. Apple brought in about $54 billion in revenue and sold about 47 million iPhones. This time last year, with the release of the iPhone 4S, Apple brought in about $46 billion in revenue and sold close to 37 million iPhones. Basic math would dictate that Apple has grown and increased its sales. In fact, the first quarter of 2013 was record breaking for Apple and one of the best quarters they have ever had.
So why has Apple stock dropped 10 percent with these numbers? Well a big part of the answer lies in the expectations that analysts set. Firms like Piper Jaffray had set estimates that Apple would sell 50 million iPhones, which it had fallen short of. While Apple surpassed its previous year’s iPhone sales by 10 million, it did not matter to investors. The reasoning behind this is that Apple, like a lot of companies, is expected not only to meet expectations but to also surpass them. When they fail to meet expectations, investors start to raise red flags even though the company performed fantastically. The problem isn’t that a company isn’t growing; it’s that it isn’t growing fast enough.
These analyst predictions carry a lot of weight because investors want a benchmark. Analysts provide the metric by which investors reassure themselves that their faith in a stock is justified. When a company fails to meet these benchmarks, even if the reported numbers are still good, it justifies shooting down the stock. While analysts carry a lot of weight, their accuracy is a bit shoddy. Among 68 analysts, the predicted Apple revenue figures fell anywhere between $51 billion and $66 billion. Those that listened to the $51 billion estimate would be ecstatic, but those that used the upper end estimates were likely severely disappointed.
The hard truth is that a company can’t continuously expand at the same rate. If a company surpasses expectations, analysts will raise the bar with their next estimates. This cycle continues until the estimates start to outpace the rate at which the company is growing. It can even be dangerous for a company to expand itself too rapidly in order to meet certain expectations.
Now this isn’t to say that speculation can’t have a positive effect on stocks. Every time rumors come out in favor of a company, such as new iPhone rumors or the opening of a Google store, it gives a small bump to their stock. When rumors circulated that Liquidmetal would be used in the iPhone 5, Liquidmetal’s stock doubled. But when those rumors proved utterly false a week or so later, the stock tanked. Even a few encouraging or discouraging words from big name analysts can be enough to get people to buy or sell a stock.
However, the fundamental problem with analyst estimates and speculation, good or bad, is that it isn’t rooted in current data. Speculation leads investors to attach a company to a supposed future version of itself, making it disconnected from its current operations. Rather than taking a company for what it is worth, hype from analysts can cause inflated expectations. This has been the case with Apple, Facebook, Groupon and plenty of other companies that have been put between a rock and hard place; do they risk growing rapidly in order to meet the expectations, or do they disappoint investors and take a correctional hit in stock price?
Rather than relying on the speculation of analysts as a benchmark, investors should look at a company’s quarter report without a preset value in mind. Concerns should be raised if a company reports lower sales and lower revenue or profits. But if those metrics have increased, a company’s stock should generally be rewarded with positive results and not be punished for failing to meet a speculated benchmark.