Looking for the S&P 500’s Price/Earnings Ratio? Take Your Pick
A few days ago when we started to look at potential market bottoms and average market values, a discussion was stirred up about which P/E (price to earnings ratio) was the right one to use for the S&P 500. That’s not an easy question to answer, as there are actually five you could think about. In no particular order, the current P/E measures are…
- 21.4, if reflective of actual trailing reported earnings for the last four quarters
- 18.3, based on forecasted earnings for the next year twelve months (analysts)
- 16.1, when based on forecasted operating earnings for the next twelve months (analysts)
- 15.9, if looking at trailing operating earnings for the last year (this removes those “one time” items)
- 11.2, if reflecting the forecasted operating earnings for the next for quarters (from the company)
For comparison, the ‘recent history’ (last twenty years) average P/E ratio has been 23, and the long-term (as in decades) average P/E ratio is more like 15.5. Clearly those are based on actual earnings, and not forecasted earnings.
After giving it some thought, I don’t think the P/E of 11.2 is realistic. Aside from being unusually low, that one price/earnings measure also comes from the companies themselves…and they may be overly-optimistic.
On the other hand, stocks are still undervalued by all other measures. It’s possible earnings may fall a little short of whatever the current expectations are, but still, they’re cheaper than the recent average.
I think I previously mentioned the S&P 500’s forecasted price/earnings ratio was around 9.0, but the source for my information didn’t cite their resources. So, I’m going to question that now. I got my data today from Standard & Poor’s. S&P is still capable of being wrong, but I trust their judgment and access to information better than most others.
Anyway, stocks really are (relatively) cheap right now, if you’re looking for values.
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We know the earnings history, which is why it was always used till recently — worked great. Get a grip, you are going to use the “forward looking # of analysts, of companies”? Using earnings history you have a statistic, using analyst projections give you a sales pitch.
Editor’s response: There ya’ go. On a similar note, one thing nobody’s mentioned yet is that part of the reason the P/Es still look so low is simply that many companies and analysts haven’t had a chance to revise their forecasts yet. The current projections are pre-meltdown. Once all the adjustments are factored in over the next few weeks, the ‘expected’ price/earnings measures will creep higher, IMHO.
Comment by dunnage — 10/23/2008 @ 3:25 pm
whats the point of endless blubbering about PE.. cheap, not cheap, extremely cheap
you mentioned word ‘value’, well here’s what best value investor Warren Buffet did
he bought into GE and Goldman, no blubbering before… and lots of after..
so here’s my advice, buy first, talk later..
good luck
alex
Editor’s response: Thanks Alex. You’re right - talk is cheap. And, you pretty much affirmed our point….you can talk about how cheap stocks are all you want, but there’s no pre-set level you should buy or not buy at. And, those are all a guess anyway. Thus, the P/E discussion is merely academic. That’s why we’ve focused more on the technicals than the fundamentals with this selloff…it’s all about timing the entry (assuming it can be successfully done).
However, we really have observed that a P/E ratio of under 10 is usually the case at the beginning of a bull market. So, we’re not going to completely toss out the concept. (We don’t have a P/E of 10 yet, so it’s a moot point so far.)
As for Warren Buffett, yeah, he bought some big stakes, but it’s easy for the Oracle of Omaha to get excited - he got a ’value’ nobody else is getting…preferred stock with a ridiculously high dividend. If I could get the same deal, I’d be buying too. Unfortunately, I have to buy the regular common stock, and hope for the best. That’s why I can’t be quite as bold as Buffett just yet.
There’s an obvious solution though - buy Berkshire shares…seriously.
Anywho, Alex is right…we can talk all we want, but nobody really knows what’s going to happen or what stocks ’should’ be worth. Sometimes you just have to put your money on the table and then figure it out (i.e. decide to keep it there) as you go along.
Comment by alex west — 10/23/2008 @ 1:38 am