1.11.14: SP 500 Earnings Update: We Hear From a Plethora of Financials This Week

Per ThomsonReuter’s This Week in Earnings, the forward 4-quarter estimate slipped $0.03 this week to $120.74.

The p.e ratio on the forward estimate as of Friday’s close is 15.3(x). The PEG ratio is 2.33(x). (The PEG consists of the SP 500 forward p.e ratio / divided by the growth rate of the forward estimate).

The earnings yield is now 6.55% and is firmly below 7% and has been below 7% since 10/4/13.

The year-over-year growth rate on the forward estimate is now 6.56% versus last week’s 6.05%.

The forward estimate y/y growth rate has been locked between 6% – 8% since early July ’13. This is a step up from the 3% – 4% slump we saw in the middle of last year.

We need to see the growth rate break out above 8% and move to 10%, for the next phase of SP 500 p.e expansion (in my opinion).

In 2013, using the forward estimate as published by ThomsonReuters, the SP 500’s p.e “expanded” from 12/28/12’s 12.89(x), to 2013’s ending value of 15.75(x). The forward estimate grew from roughly $108 to $116 per share in that same time frame.

For me, that tells me that 2013’s +30% SP 500 return wasn’t driven strictly by p.e expansion, but also by earnings growth, and also by market cap performance.

As we detailed in one of our latest blog posts, it doesn’t take much p.e. expansion to get to an 18% return in 2014, and we expect 2014’s SP 500 earnings growth to be stronger than 2013’s expected 7% – 8%. All it takes is p.e expansion from 15.75(x) to 18(x) in 2014 to get to an 18% return for the SP 500 in 2014. Very doable math…

Expect +10% earnings growth in the SP 500 in q4 ’13.

All this being said, my forecasting and predictive ability is just as opaque (read bad) as everyone else’s. I write these scenario’s simply to force myself to think through the issues, math and the metrics.

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We are focused on changes to 2014 earnings growth estimates. The absolute level of expected growth counts (i.e. +3%, or +4%, versus the SP 500 +10.8% currently), as well as relative growth changes within the SP 500 itself.

Financials: Big Week – watch the LLR releases

“Everyone” is focused on the coming week’s financial earnings releases, as of the 29 SP 500 companies scheduled to report, more than half (and likely over 20) will be Financials.

Financials are expected to generate 21% earnings growth in q4 ’13 on revenue growth of -12% (more on the revenue growth just below). For 2014, Financial’s are expected to generate just 11% earnings growth for the full-year, slightly better than the SP 500’s currently projected 10.8%. A lot of smart folks have now turned bullish on Financials.

“Everyone” is expecting strong q4 ’13 numbers from the capital-market-sensitive names like GS, JPM, Morgan Stanley on Friday, etc.

Corporate bond issuance, the IPO market and the capital market returns for q4 ’13, should make for a very strong q4 ’13, for any Financial with a capital markets group that is material to the company.

Revenue growth is the issue for Financials: Thomson is currently projecting a 12% decline in Financial sector revenues in q4 ’13, and per Thomson’s commentary, “9 of the 20 sub-sectors within Financials are expected to see revenue decreases for the quarter, led by Life & Health Insurance (-44%) and Industrial REIT’s (-25%)”. However per Factset’s John Butters, this revenue growth issue is being driven by one company, i.e Prudential, which is expected to report $11.5 bl in revenues vs $44 bl last year (quite an unusual compare).

Per John Butters of Factset, if Pru is excluded from the Financials, the revenue growth for Financials as a sector, improves to a -0.3%, while if Pru is removed from the SP 500, the expected revenue growth for the index improves to 1.6%

We think Goldman (GS) is getting close to fully valued. We still love Schwab (SCHW) but think the 80% return in 2013 has discounted some of the hidden earnings masked by ZIRP. The death of prop trading in our opinion took about $10 per share in EPS permanently out of Goldman’s P/L. The big trading houses are still in the dog house, and the multiples relative to the growth rates demonstrate this phenomenon, more than any other metric.

Watch the loan-loss releases (LLR’s) and the loan-loss provisioning for the big banks. Financials have generated tremendous earnings growth all year, on sector revenue growth of just 1% – 3%. Topline revenue growth is just not there for the sector despite strong capital markets.

However I do think LLR’s run out at some point and Financials start to build asset reserves again. The LLR releases can’t continue forever, which will result in slower earnings growth, once the earnings boost from the reserve releases are done.

Just my opinion. We’re out with more “stuff” later this weekend.

Thanks for reading.

Trinity Asset Management, Inc.

Brian Gilmartin, CFA

Portfolio manager

brianglm@trinityasset.com

 

 

 

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