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Either analysts are wrong, or stocks will go crazy

As the last of the fourth quarter earnings trickle in, the S&P 500's earnings growth rate for the quarter looks strong, at 8.5 percent. What's weird is what analysts are predicting for earnings growth in 2014.

In an outlook that could only be described as disjointed, analysts are expecting earnings growth to dive to 0.9 percent in the first quarter, only to grow to 11.9 percent in the third quarter.

(Read more: Big money is bullish on stocks, bearish on bonds)

2014 Earnings Growth Estimates, 2/24/14
Q1 2014 0.9%
Q2 2014 7.8%
Q3 2014 11.9%
Q4 2014 11.2%
Source: FactSet

These expected growth rates, compiled by FactSet, are based on the individual mean estimates for each stock in the S&P 500. And while it may be striking that analysts expect the earnings growth rate to surge by 11 percent over the course of two quarters, something nearly identical was predicted at the same time last year.

In February 2013, analysts expected Q1 2013 earnings to come in at 0.5 percent, then rise over the course of the year to finish at 14.8 percent.

2013 Earnings Growth
Estimates, 2/24/13 Actual
Q1 2013 0.5% 3.8%
Q2 2013 5.7% 2.3%
Q3 2013 10.8% 3.5%
Q4 2013 14.8% 8.5%
Source: FactSet

While earnings actually did grow over the course of 2013, perhaps it is not a surprise that they did not meet those incredibly optimistic expectations.

"In the near-term, analysts are more pessimistic, and then as we go further out, they tend to get more optimistic in their projections going forward," said FactSet senior earnings analyst John Butters. "So while we do see a fairly optimistic projection for 2014, it is not unusual."

(Read more: Why earnings might actually start to mean something)

Perhaps this trend has something to do with the lopsided spread of stock recommendations on Wall Street. While 50 percent of ratings on S&P 500 stocks are buys, only 6 percent are sells. This implies that analysts expect 50 percent of stocks to outperform, but only 6 percent to underperform.

S&P 500 Ratings, 2/24/14
Buy 50%
Hold 44%
Sell 6%
Source FactSet

One likely explanation for the incredibly optimistic 2014 earnings estimates, then, is that each company's analysts are merely providing justifications for their own buy ratings.

"As an analyst, you want to print a certain number, and you'll do whatever it takes to get to that number to get a buy recommendation," said ConvergEx Group chief market strategist Nicholas Colas, drawing on his own experience as an equity analyst covering the auto sector. "Maybe it takes a prediction of 10 to 12 times earnings growth to get to that number. Well, then that's what you're going to do."

The issue is that analysts feel a great deal of pressure to recommend stocks.

"It isn't just that analysts want to be optimistic. They have to have things to market. And maybe a good deal of your client base has to be long stocks," Colas said. "Well, at the end of the day, you have to justify those recommendations with some numbers."

Yet while long-range estimates can soak up optimism, analysts will keep nearer-term estimates closer to earth, because "analysts don't want to be proven too wrong on the current quarter," Colas said.

(Read more: Winter weather freezing corporate profit growth)

Michael Pachter, a widely followed analyst of video game, digital media and electronics stocks with Wedbush Securities, says the blame really lies with corporations, not research analysts.

"Companies low-ball at the beginning of the year, and back-end-load their earnings profile," Pachter said. "Companies are increasingly telling analysts that earnings are a hockey stick, and analysts do what the companies tell them."

Regardless of who is to blame for the odd earnings projections that have been cropping up, investors have probably gotten used to them by now.

Still, all the anticipated growth—which has been registered in expansion in price-to-earnings ratios more than in actual earnings—can't be pushed off forever.

"It happens every year in exactly the same way, and capital market professionals understand that, so you can have a market that goes up as estimates go down," Colas said. "But at some point, that game has to end. Because you can't have P/E infinity."


—By CNBC's Alex Rosenberg. Follow him on Twitter @CNBCAlex.

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