Two Key Announcements that Affect the Value of Stocks

Mar 17, 2020 by

The ebbs and flows of equity prices change daily minute by minute. Stock prices in theory reflect all the current available information at any time. When new information becomes available, the price of a stock will move to reflect that new information. Two of the most important pieces of information that will affect the price of shares are quarterly financial results and interest rate announcements.

Earnings Releases

There are several key announcements that can alter the value of a company stock including financial results. Each quarter a public company reports to its investors and the authorities its financial results. Each regulatory body will require companies to report specific information. Very commonly, a company will need to report its net profits, its earnings per share, its revenue, its cash flow, its operating income. Additionally, many companies also offer forward guidance. The guidance is the revenues as well as earnings the company expects to make during the following quarter or maybe the entire fiscal year.

What is important about the financial results is how much a company reports relative to what was priced in by market participants. What is priced in is all the available information, which might be approximated by what the average analyst expected a company would earn and produce in revenue. This also would include future guidance.

When a company reports its financial results, the difference between what was expected and what occurred will alter the value of the shares. Once of the most important components is forward guidance. Since earnings and revenue is what has happened in the past, the market will focus on future earnings and the guidance a company provides relative to expectations.

Interest Rates

Another piece of information that is critical to the value of a company is interest rate announcements. The reason is because many analysts value a company based on the future discounted cash flows a company earns. Discounted cash flows are future cash flows discounted back to the present based on the current interest rate. If everything but interest rates remains unchanged, the higher the interest rate the lower the discounted cash flows. Alternatively, the lower the interest rate, the higher the discounted cash flows.

Like earnings results, changes to interest rates are incorporated into the market by market participants using financial securities such as bonds and bills. As bonds and bills rise the interest rate declines and as bond and bill prices fall interest rates rise.

So, when interest rates unexpectedly rise that erode the discounted cash flow value of a share. The reverse is true when interest rates fall. This can occur when a central bank changes interest rates and the move was not expected. For example, on March 2, 2020 the US Federal Reserve unexpectedly reduced the bank lending rate, known as the Fed Fund rate by 50-basis points.

The Bottom Line

Both interest rate changes and earnings result releases can alter the value of a stock. What is important about both key releases is not the actual numbers, but what was released relative to what was expected. For earnings, which also includes revenues, investors focus on future guidance and what the company expects to make in the future. With interest rates, the market values future interest rates based on securities such as bonds and bills. A change that was not expected will generally be a catalyst that moves the price of a stock.

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