Investing Answers Building and Protecting Your Wealth through Education Publisher of The Next Banks That Could Fail
Investing Answers Building and Protecting Your Wealth through Education Publisher of The Next Banks That Could Fail

Earnings Momentum

What it is:

Earnings momentum is a term to describe accelerating or slowing growth in earnings per share (EPS).
 

How it works (Example):

Let's assume that Company XYZ has reported the following EPS:

Q1: $0.25
Q2: $0.27
Q3: $0.30
Q4: $0.36

Clearly, Company XYZ's EPS is increasing, which is a good thing. But the company also has earnings momentum because the rate of growth in that EPS is also growing. For instance, the rate of change between Q1 and Q2 was about 8%. The rate of change from Q2 and Q3 was higher -- about 11%—and the rate of change from Q3 to Q4 was even higher -- about 20%. This is earnings momentum. The company isn't just growing: It's growing faster.

Why it Matters:

Increasing earnings is great for companies and investors, but earnings momentum is better. It signals that not only is the company doing well, it is dynamically improving. A consequence of earnings momentum, however, is that a company's P/E ratio or other earnings-based multiples may not reflect the company's true value or potential.

It is important to note that earnings momentum is a two-way street. A company's earnings may be rising, but if that rate of increase is slowing, the market may bid the price of the stock down despite its higher earnings. In other words, the market sees that the company cannot sustain its earnings momentum.