Beaten Down, But Not Out

Skyrocketing earnings of 28% would be cause for celebration for most ordinary $160 billion companies. Not for Google (NASDAQ:GOOG). After reporting a quarter that would have looked fabulous almost anywhere else, the search giant's shares promptly fell more than 5%.

Not only that, but Google's bad news -- announced nearly in tandem with Caterpillar's (NYSE:CAT) similarly negative surprise -- knocked the entire market for a more than 1% tumble. Ouch.

Stepping back from the pain for a minute, that fall did serve as a great reminder that even when it's at its best, the market:

• Projects investors' expectations
• Reflects investors' current perceptions of the company
• Does not predict the future
• Is not always right

The expectations game
Could you have predicted Google's stumble? And, if so, could you have profited from it?

The answer to both, unfortunately, is a resounding maybe. Because for every high-growth Google-esque stumble, there's a Research In Motion (NASDAQ:RIMM) that beats expectations and shoots to the moon.

In the end, how a company's stock reacts to its earnings announcement has more to do with what Wall Street was expecting than the actual numbers delivered by the company. If you understand that key point, you have mastered a central plank of the powerful market-beating investing strategy we follow at Motley Fool Inside Value.

The fact is, nobody's perfect. No company always hits expectations. No analyst always gets it right. Fortunately, as an investor, you can turn that uncertainty to your advantage.

When worrywarts win
Because stocks are priced based on the market's expectations, there are times when those expectations are too low. If they get low enough, a company might beat them simply by staying alive. Automobile titan General Motors (NYSE:GM), for instance, hasn't strung together four consecutive profitable quarters in several years. Yet GM has returned more than 90% since the beginning of 2006. Clearly, the market expected a far worse fate for GM (bankruptcy, perhaps?) than what actually transpired.

Given the company's clearly shaky financials, an investment there would not have been for the faint of heart. Nevertheless, the GM story illustrates how an investor can profit by buying when the market expects the worst.

Here are a few financially stable stocks that may fit that bill today:

Each of these names:

• Trades for less than 15 times trailing earnings
• Has a price-to-earnings-to-growth (PEG) ratio below 1
• Pays a dividend
• Is expected to grow at a decent rate over the next five years

These stocks are not without risks. There's a lingering fear that insurance giant Allstate will again find itself directly in the financial-destruction path of more hurricanes, for example.  

Get ready to profit
Finding and buying great firms in the face of excessively pessimistic market expectations is how value investing has managed its decades-long dominance over growth investing. It's also how we've managed to beat the market at Inside Value since our 2004 inception. If you're looking for a few solid, beaten-down companies, join us today free for 30 days. There is no obligation to subscribe.

At the time of publication, Fool contributor and Inside Value team member Chuck Saletta owned shares of General Motors. Precision Drilling Trust is a Motley Fool Global Gains recommendation. The Fool has a disclosure policy.