The Irrational Magnitude of Hewlett-Packard's and Cisco's Decline

Although we don't believe in timing the market or panicking over daily movements, we do like to keep an eye on market changes -- just in case they're material to our investing thesis.

Some very intelligent individuals may argue that the markets are rational, but each and every day, we can easily find a number of stock moves that can be chalked up to irrational thinking. Sometimes, those moves are due to irrational behaviors in the past, and the current day's price change is a simple correction, as investors realize the previously made mistake. But other times, the irrational behavior is happening today, as a stock will move dramatically lower or higher because of a small and non-materialistic change of some sort. The length and severity of these irrational moments can be days, weeks, months, or simply hours.

Noticing them, and learning from them, can help you become a better investor for a number of different reasons. First and foremost is that, once you understand and accept that these types of things happen, you'll be somewhat prepared when they occur to stocks you own. That understanding should help you avoid falling prey to the irrational behavior, and enable you to take advantage of it by purchasing shares when the market undervalues them. These "buying opportunities" are a wonderful way to maximize your investment returns and, over time, will help your portfolio grow to its full potential.


Let's take a look at a few stocks that  have displayed some irrational behavior lately.

On Thursday, shares of Hewlett-Packard declined 5.36%, while router-maker Cisco lost 10.96%. The struggling PC manufacturer tanked today after it announced that it's pulling the HP Chromebook 11 from store shelves. The reason is that the charger for the laptop has an issue with overheating. As my colleague John Divine noted earlier today, it's never good to have a recall, but for a company going through a turnaround, it's coming at a particularly horrible time -- just a few weeks before Thanksgiving and the kickoff to the holiday shopping season. 

As for Cisco, the decline came as the result of a poor earnings report and a lower-than-expected forecast moving forward. Although the company posted adjusted earnings per share of $0.53, and analysts were only expecting $0.51 per share, revenue only grew 2%, while Wall Street wanted to see 3% to 5% growth in sales. Furthermore, management expects revenue in the coming quarter to fall 8% to 10% from the $12.09 billion in sales the company reported during its second quarter last year.

First and foremost, today's moves, while irrational in their magnitude, were certainly warranted. But they were clearly irrational when it comes to the amount that the stock price fell today.

Starting again with Hewlett-Packard, the company lost 5.36% of its value, which, based on Wednesday's closing price of $26.49, and Thursday's closing price of $25.07 after the decline, means the company lost more than $2.5 billion in market cap based on news that it was pulling one product from the shelves. One product! Not a whole line of Chrome books! Not every laptop it has on the market! Again, I do believe this announcement is not a positive thing for the company, and the stock should have declined today, but this issue is not going to cost the company $2.5 billion either in the long or short run. Thus, the move was way overblown, and quite irrational in my eyes.

As for Cisco, if we look at what the revenue decline of 8% to 10% in the next quarter will mean for the company, the fact that Cisco lost $14 billion in market cap after this news is insane. Even if revenue declines the full 10%, as the company said it could in the coming months, it only equates to a revenue decline of just more than $1.2 billion. While a 10% drop in sales is dramatic, Cisco's stock hasn't been one that was priced for perfection lately -- It currently trades at just 11.5 times past earnings, and about 9.5 time's forward earnings. The company has over $48 billion in cash, it pays a 2.9% dividend, and has a $16 billion share buyback program in place, which could reduce the outstanding shares by around 10%.

Cisco's decline today was even more overblown than Hewlett-Packard's, and should be seen as a great buying opportunity for investors looking to own a quality blue chip company for years to come.

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The article The Irrational Magnitude of Hewlett-Packard's and Cisco's Decline originally appeared on Fool.com.

Fool contributor Matt Thalman has no position in any stocks mentioned.  Check back Monday through Friday as Matt explains what causing the big market movers of the day, and every Saturday for a weekly recap. Follow Matt on Twitter @mthalman5513 The Motley Fool recommends Cisco Systems. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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