How to Identify Strong Finance Stocks Expected to Surprise Positively in Earnings

In the long run, two key factors often influence stock prices: a company’s earnings and prevailing interest rates. While investors generally cannot influence interest rates, they can keep a close eye on a company's quarterly earnings results.

Understanding earnings is crucial, but what can be even more significant for stock prices—especially in the short term—is how well a company performs against expected earnings. This is why many investors look for stocks that are likely to exceed their earnings forecasts.

Though many investors hunt for earnings surprises, the process can be challenging. One effective method for identifying stocks that are likely to outperform expectations is through the use of the Zacks Earnings ESP tool.

Understanding the Zacks Earnings ESP

The Zacks Expected Surprise Prediction, or ESP, focuses on the latest revisions of analyst earnings estimates. These current evaluations are often more accurate than estimates made weeks or months ahead of an earnings release. Analysts closer to the report date usually have access to more comprehensive information.

The ESP model centers on comparing the Most Accurate Estimate with the Zacks Consensus Estimate. The percentage difference between these two figures gives the Expected Surprise Prediction. Additionally, the Zacks Rank is incorporated into the ESP analysis to better identify companies that are likely to outperform their next earnings estimates, which can lead to a rise in stock prices.

By combining a positive earnings ESP with a Zacks Rank of #3 (Hold) or better, stocks have recorded a positive earnings surprise approximately 70% of the time. Historical data shows that following these criteria can lead to average annual returns of 28.3%, based on a ten-year backtest.

Stocks rated #3 (Hold) typically perform in line with the market, accounting for about 60% of all stocks covered. In contrast, stocks assigned a #2 (Buy) or #1 (Strong Buy) rating—representing the top 15% and top 5% of stocks—are expected to outperform the market. Notably, Strong Buy stocks tend to lead in performance.

Example: Berkshire Hathaway B

Now that we understand the potential of the Earnings ESP tool, let's examine a stock that qualifies: Berkshire Hathaway B (BRK.B). This stock currently holds a #3 (Hold) rating, and its Most Accurate Estimate stands at $5.20 per share, just 11 days before its upcoming earnings release on November 1, 2024.

Berkshire Hathaway's Earnings ESP is +8.11%. This is calculated by taking the difference between the $5.20 Most Accurate Estimate and the Zacks Consensus Estimate of $4.81. BRK.B belongs to a larger category of finance stocks that show a positive ESP. Investors can utilize the Earnings ESP Filter to identify the best stocks to consider before earnings reports.

Another stock to consider is Arch Capital Group (ACGL), which also carries a #3 (Hold) rating. ACGL is set to release earnings on October 30, 2024, with its Most Accurate Estimate at $2.14 per share, just nine days away.

Arch Capital Group has an Earnings ESP of +7.91%, derived from the difference between its Most Accurate Estimate and the Zacks Consensus Estimate of $1.98.

With both BRK.B and ACGL showing positive Earnings ESP figures, these stocks could potentially exceed earnings expectations in their next reports.

How to Find Stocks Ahead of Earnings Reports

Utilize the Zacks Earnings ESP Filter to discover stocks that have a higher likelihood of making positive or negative surprises, allowing you to make informed buy or sell decisions before earnings reports. This can prove invaluable for trading during earnings season.

stocks, earnings, finance