They become more volatile and act more irrationally. Here are some examples

The quarterly and annual results announced by companies are keenly watched by the analysts in the stock market. There is a lot of analysis that is done during pre and post result period by fundamental analysts. Buy, sell or hold decisions are driven by these results as well. But results are not just about these analyses. The results season brings some interesting behavior of the stock market out in open. In fact results announced by the companies shatter many of the established logic on which the market operates. Let us have a look at some unusual behavior of the market during the result season:

Option contracts become riskier than the underlying: Option contracts are often pitched as derivatives contract which have a limited loss with an unlimited potential gain. While the loss of the buyer remains limited to the premium paid by him, the gains are potentially unlimited (in call option only technically). However, what people often fail to notice is that during the results season the options contract becomes more risky than the underlying and cause severe loss to the option buyers. Though loss remains limited, the severity of loss is so huge that entire wealth of the investor may be wiped out.

Let us look at result announced by State Bank of India (SBI) during 2nd quarter of current financial year. On the date of announcement of the result, the SBI stock fell by 3.98% while the call option contract value was eroded by 80.80% for the strike price of 2350. In terms of amount, fall in the stock price was more than the option contract, however in terms of wealth erosion the option value was almost completely wiped out. For a trader, the results season is a lesson for adopting an appropriate trading strategy where positions should be created both with call and put option to avoid any unbearable loss of exposure in only call or put option.

Low beta stocks temporarily turn into high beta stocks: Risk averse investors often opt for low beta stocks because they believe that low beta stocks will protect them against any significant downward movement in the market. However, the results season defies this logic. Low beta stocks also become high beta stocks during the results season. If you compare beta of a stock based on the last six months’ data with a beta calculated seven days prior to result and seven days post result, beta of the stock goes up significantly. Even stocks like ITC start showing beta more than 1.

It often happens that a low beta stock cause significant loss to the investor who had entered into the stock thinking that losses will be limited. While this phenomenon may be temporary, an investor needs to know and understand this erratic behavior of market.

Market reacts to results and ignores analysis:  It is frequently observed that better-than-expected result causes the stock price to go up significantly. This is the result of reaction rather than analysis. So after a sudden spike in the price, the stock price starts moving southwards and very often stabilizes to pre-result price. When ITC announced its 2nd quarter result for the current fiscal, the stock price zoomed up to Rs299, which was the 52-week high for the stock price. After sometime post the result, the stock price retreated to Rs278 level. This fall of around 8% from peak was not because of any strong fundamental reason. Recently, the ITC stock  crossed the price of Rs299 because of sudden bull run in the market.

This aspect of unusual behavior of the stock market shows that investors need to read much more than the immediate impact of result. Stock selection needs to be based on analysis. For traders this kind of movement may create profit opportunities but investor’s decision should not be driven only by temporary spike.

There are many other cases of unusual behavior of the stock market during the results season like increase in volume of transactions, increase in speculation, etc. The results season is the season when aberrations become the rule and defy time-tested logic. No wonder, analysis should rule over reaction during this period.

(Vivek Sharma has worked for 17 years in the stock market, debt market and banking. He is a post graduate in Economics and MBA in Finance. He writes on personal finance and economics and is invited as an expert on personal finance shows.)