S&P500 Earnings: Don't just look at yearly EPS - look at quarters

• S&P500 goal of USD 6.03 EPS growth in 2012 heavily dependent on Q4 
• Q4 would have to contribute 38% of total EPS growth to reach the target
• In 2013, about 65% of EPS growth is back-loaded into H2
• A delicate, risky environment. How much should we pay for growth?

Investors, commentators and analysts spend a lot of time looking at yearly EPS and discussing if stocks will be able to reach this or that level. If companies are able to beat the target, they're praised and purchased, if they miss the target, they are lambasted and sold.

I believe that too much emphasis is being put on yearly EPS. Earnings are spread over four quarters, and these are the building blocks of full-year earnings growth. This article will highlight some risks to sentiment.

The calculations
In table 1 I have listed each quarterly S&P500 EPS, either actual or expected. These are, at the right, aggregated to the yearly numbers. In two sections below I make some interesting calculations on 2012 and 2013 respectively. First I calculate the yearly growth from one quarter to the other and for the full year, i.e. 6.2% growth is what is expected at the moment for 2012. Secondly I attribute the overall EPS growth of USD 6.03 to each of the quarters, i.e. Q4 is expected to deliver USD 2.27 of the total for full year 2012. In the line below I have the percentage contribution to overall growth, i.e. Q4 is expected to contribute 38% of the EPS growth. 

Sentiment risk in 2012 and 2013
When we have finished the current quarter, it would be false to assume that earnings growth for 2012 is "in the bag". To hit the market expectation we still need 38% of the EPS increase to occur in the fourth quarter, which is substantially more than 1/4th of EPS. Q4 of 2012 includes some risk to sentiment if growth does not improve. Investors would face down-grades and stocks with relatively high valuationcould be hit hard.

Looking farther and into 2013 there is also a substantial skew in the earnings. A disproportionate share of the earnings are back end loaded in H2. Of the current expectation of EPS growth of USD 11.23, a total of USD 7.31 is located in Q3 (USD 3.66) and Q4 (USD 3.65). This equals to 65% of the earnings. Investors would have to come a long way into 2013 before the getting a grip on the chances of reaching the growth target.

Consequences for valuation
The overall skew in earnings increases risk for investors and this should in my view put extra limitations on how far valuation i.e. P/E can rise. Currently we are actually on the high side of valuation if we look at the period since the beginning of the financial crisis, see chart1.

A lot depends on Q4-2012 if the USD 6.03 growth is going to be reached. We can get out of the current doldrums but there is a definite risk of a long term low growth period i.e. the Japan scenario. These overall risks make me wary of pushing valuation too high.

Conclusion
For the full year SP500 earnings a lot depends on Q4 if the USD 6.03 growth is going to be reached. Secondly 2013 looks tricky as the overall EPS growth of USD 11.2 is loaded in H2 where USD 7.3 is expected to land. This makes the season and valuation risky and with P/E near the highs since the financial crisis set in. 

Read also:

1. The S&P 500 earnings season starts today: A Helicopter View 
2. S&P500 Q3 earnings: Dour tone despite positive EPS surprise.
3. S&P500 Earnings: Analysts cut growth outlook for 2012 and 2013.

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