Today one of our portfolio holding Cisco Systems (CSCO) is plunging greater than 10% following a mixed quarterly earnings report, obviously disappointing or else you wouldn't have such a horrendous decline. We didn't sell out of this name, but also didn't buy on the dip. Why is that? We'd like the opportunity to explain the decision, compare it to our other decisions to buy/sell, hopefully to help subscribers better understand our portfolio management process.   

Here is what we concluded in our write-up of CSCO's quarter:   

Why not sell out of this bad quarter?

The reason is our investment thesis in CSCO is still intact, so it doesn't make sense to sell being down ~25% on the position. The key to our decision lies in three phrases from the above paragraph. First, "challenges related to external events like the lockdowns in China and the decision to stop all operations with Russia and Belarus." Pandemic and war are factors that management cannot control, and shouldn't be punished because of that. Second, "make up with higher-than-expected margins." This speaks to management's ability to execute despite uncontrollable headwinds. Third, "zero inclination [of demand soften and cancellations amid macro uncertainty]."  This reassures us that our investment thesis is still intact.  

Why did we sell Boeing out of a bad quarter?

Just last week, we decided to take a ~40% loss in Boeing, selling after a terrible Q1 2022 earnings that saw the stock plunging ~10% after the print. The reason to sell Boeing was that we completely lost trust in Boeing's management team. While this was Cisco's first quarterly miss since we initiated the stock, and to understandable factors, Boeing has continuously dissapointed and missed for the past year. Remember, the B787 issue has been ongoing for almost a year, and the B737Max recertification in China has been dragged on for longer than anyone can remember. If Boeing management cannot get these issues resolved now, they will likely miss the golden opportunity in the air travel cycle: if it is true that air travel will likely slowdown due to high costs, carriers will slow down their ordering of new planes. 

Why not buy on this dip?

While we don't want to punish management team on a bad quarter that was largely out of their control, we also don't want to bet our money on things that cannot be controlled. The company clearly did miss on earnings, meaning that estimates will be revised down (the E in P/E) and also the P/E multiple will come down. This double whammy is dangerous, and we don't want to catch a falling knife. We want to wait for estimates to be revised, for the market to find a bottom for this stock, and would only add when we see any glimmers of hope that the China issue gets resolved. 

Why did we buy AMD on the dip?

In contrast, we bought AMD on the dip after it reported Q1 2022 earnings in early May. What's the difference? It's very clear: AMD beat earnings on both the top and bottom line, with a very big surprise that their Xylinx addition is growing almost twice as fast as analysts had estimated. What was the result of such positive surprise? No price appreciation to the upside, and we even got opportunities to buy at prices below when the surprise came out. It's a clear buying opportunity when a company comes out with an unexpected good news and you have a chance to get in at lower prices.

One might say, "the market is not stupid, if it was really good then people would have realized it and bought it up." This is where it gets interesting, and actually how you can make money in the stock market. The explanation lies in the existence of ETF (exchange-traded funds) which makes it not always the case that a stock moves as expected. In this modern market, institutions come up with many ways to generate revenues and actively-managed ETFs are a way for institutions to charge management fees. AMD stock is in so many ETFs, see the list here. On the other hand, many hedgefunds (market participants) use these ETFs as tools to optimize trading profits. For example, let's talk about a semiconductor ETF that AMD is in (SOXQ for one). Traditionally, semiconductor stocks are considered cyclical, they behave well when the economy is doing well, and do bad when economic growth slows. So if a hedgefund wants to bet against the economy, one way to do so is to short-sell the SOXQ semiconductor ETF. Since AMD is in this ETF, the selling of this ETF will exert selling pressure on AMD. ETF is the explanation for why often you see a bad news in one company drag down companies in the same sector. For example, Microsoft could report a bad quarter and the next day you see Facebook down too, the reason is the technology ETFs that hold these names. 

So the bottom line, a stock could have unexpected good news and you would expect the stock to trade up, but this does not necessarily happen right away if the whole sector or the whole market is under pressure due to macro-economic impacts. Indeed, this AMD case happened during a period of volatility regarding the Federal Reserve's monetary policy, inflation concerns and impact from treasury yields. The semiconductor sector, and in fact the whole market, were sold as a whole, and that's why good news out of AMD wasn't appreciated. 

But ultimately individual stocks' good news will be recognized and rewarded. We believe the market is about to get to that, as it is slowly finishing its work pricing in macro-economic headwinds. Just earlier this week, an analyst reminded the market about AMD, and the stock actually bucked the tape and gained nearly 9%. For most of the day today, as the major indices were trading in the red, AMD was actually trading up nearly 2%. These are early indications that AMD is bucking the market's downtrend, as buying pressure in this individual name wins against the selling pressure in the ETFs. Look for days when AMD is up while its semiconductor peers like Marvell (MRVL), Nvidia (NVDA), Qualcomm (QCOM) ... are down, or the SOXQ semiconductor ETF is down, or major market indices are down.