Back when this earnings season was just getting underway, I wrote a piece titled A Basic Guide to Earnings for Investors. It was intended purely as what the title suggests, but one of the conclusions of that piece was that investors with a long-term outlook should often ignore or look past short-term reactions to an earnings report. Traders’ reactions are based on different criteria from the things that matter to long-term investors, so immediate responses to earnings, and even those that follow for a week or two, aren’t necessarily indicators of a stock’s long-term trajectory.
For UPS (UPS), who reported this morning, that dynamic has been clear in the stock’s reaction to the two previous quarters’ earnings. In April, Q1 earnings that smashed expectations caused a huge jump in the stock and a couple of weeks of strong buying, followed by a retracement. Then, after Q2 results also beat but management warned of possible slowing growth, we saw the opposite. The stock gapped lower, then continued to fall for a while before bouncing back strongly.
The result of all that was a very weird looking chart with two massive gaps and a lot of volatility in what, based on size and maturity, you might expect to be a fairly stable stock.
This morning, UPS released an earnings report that may well prompt some more of the same contrasting short-term versus long-term price movements.
For the past few years, I have been pretty consistently bullish on both UPS and its main competitor FedEx (FDX) because the most fundamental shift in retail, away from brick-and-mortar stores and towards e-commerce where purchases have to be delivered to consumers, obviously favored delivery companies. Recently, though, things have started to go against logistics firms and the longer-term outlook has changed.
In the immediate future, there are some highly visible and well-known problems. The first is that oil is at multi-year highs, pushing fuel prices, an important factor in costs for delivery companies, higher. Costs are also being influenced by the labor shortage that we keep hearing so much about. Wages are rising, which is good for wage earners, but adds costs for employers. Then there are the supply chain issues that have become a theme of earnings this quarter. Demand growth only translates to profits for firms like UPS if that demand can be met, and in the current climate that isn’t always the case.
Under normal circumstances, none of those things would have any long-term impact. The supply issues will be resolved based on simple supply and demand theory, and higher costs would be offset by higher prices charged. The problem on that front, however, is that logistics firms are losing pricing power right now, so may not be able to make the short-term adjustments that are needed.
The biggest driver of the increase in home deliveries, Amazon (AMZN), has been increasing the size of its in-house delivery fleet rapidly this year and, driven by a push towards carbon neutrality as well as the obvious cost benefits of doing their own deliveries, that looks set to continue for a while. In that context, the short-term disruptions to costs and supply take on a different tone. Price increases aren’t viable in such a competitive situation, and it makes it less likely that UPS, FDX and others will see a surge in business from pent up demand when supply chain issues are resolved. The restrictions now are allowing Amazon to build capacity to meet that backlog.
So even though UPS’s earnings report was a good one and the stock has reacted positively, caution is advised. UPS faces both short- and long-term issues that aren’t going away, making a decent Q3 far less important than it might otherwise have been. The last two quarters have seen big moves in the stock on earnings that then reversed, and the shifting long-term dynamics in the logistics industry make it likely that we will see the same again.
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