CHART: 27 Years Of Failed Wall Street Earnings Forecasts

As Wall Street’s top strategists publish their 2013 stock market forecasts, Gerard Minack is mulling over Wall Street’s embarassingly poor track record of predicting earnings, a key driver of stocks.

Minack, Morgan Stanley’s Head of Global Developed Markets, notes that “consensus forecasts almost always imply that 2-3 years ahead economic and earnings growth will be at trend.”

More from Minack:

As they say, forecasting is difficult – particularly the future. Consensus earnings forecasts show just how difficult: Exhibit 1 illustrates consensus EPS forecasts for the S&P 500 from 1985, with the initial forecast for each year indexed to 100.

Here’s that chart. The farther the coloured line strays from 100, the more inaccurate the initial forecast:

earnings forecast

[credit provider=”Morgan Stanley”]

Here’s Minack’s take on earnings forecasts as seen in this chart:

First, they are almost always wrong – almost always because they are too high. The initial forecast has been too low only twice in the history of this series; otherwise, it was too high. On average, the forecasts have been 61⁄2% too high one year ahead (that is, actual EPS were on average 61⁄2% below the EPS forecast a year earlier). The average error two years ahead has been 111⁄4%.

Second, forecasts for growth rates are also typically too high, with a larger error than for EPS levels. On average, forecasts have implied 151⁄2% EPS growth over the next 12 months; on average, EPS have risen 71⁄2%.

Third, revisions to two-year-ahead EPS largely reflect the error to current year forecasts. Exhibit 2 shows revisions to the two-year-ahead EPS forecast and the error in the current year forecast. To illustrate: EPS over the year to September 2012 were 5.5% lower than the forecast made a year ahead (in September 2011). As that error appeared, the two-year-ahead EPS forecast (earnings for the year to September 2013) were cut by 7.7% between September 2011 and September 2012.

Here’s that second chart:


[credit provider=”Morgan Stanley”]