O'Reilly logo

Stay ahead with the world's most comprehensive technology and business learning platform.

With Safari, you learn the way you learn best. Get unlimited access to videos, live online training, learning paths, books, tutorials, and more.

Start Free Trial

No credit card required

The Essential P/E: Understanding the stock market through the price-earnings ratio

Book Description

The price-earnings ratio, or P/E, is the most commonly quoted investment statistic, but have you ever considered what it actually means? For most people it's a shorthand way of deciding how highly the market regards a company, with investors prepared to overpay for earnings from a high-P/E 'glamour' stock as opposed to a low-P/E 'value' stock. However, academics have known since 1960 that the opposite is true: value stocks outperform glamour stocks consistently over decades. A company with a low P/E may have been marked down for no readily apparent reason and thus could represent an attractive value investment for those with the patience to wait while the market re-values it. However, the P/E is a backward-looking measure and just because the company earned £1 per share last year it doesn't necessarily mean it will earn anything like that in the foreseeable future. Or, a low P/E can mean a company is deservedly cheap because it is in financial difficulty - in this case the company is likely to become cheaper yet or even go into administration. This book is a practical guide to how you can adjust and improve the price-earnings ratio and use it, alongside other financial ratios, to run against the crowd and boost your stock returns.

Table of Contents

  1. Cover
  2. Publishing details
  3. About the Author
  4. Foreword
  5. Preface
    1. Who is this book for?
    2. What does the book cover?
    3. Structure of the book
    4. Acknowledgements
  6. Introduction
    1. Who needs a book on the P/E?
    2. What’s interesting about the P/E?
    3. The faults of the P/E
    4. Putting right the faults in the P/E
  7. PART I. The P/E Calculation
    1. Chapter 1. History of the P/E
      1. The world of investment to 1914: dividend yield is king
      2. The US in the 1920s: enter the P/E
      3. Catching up with the US
      4. The P/E today
    2. Chapter 2. Earnings
      1. From sales to operating profit
      2. Towards the P/E’s earnings figure
      3. EBIT and EBITDA
      4. Basic, diluted and adjusted EPS
      5. Historical, rolling and forecast EPS
      6. Problems with earnings figures
    3. Chapter 3. The Price-Earnings Ratio (P/E)
      1. Understanding the P/E ratio
      2. Historical and prospective P/E
      3. Earnings yield and the E/P
    4. Chapter 4. Practical Calculation of EPS and the P/E from Company Accounts
      1. Profit
      2. EPS
      3. The P/E
  8. PART II. The Value Premium and the P/E
    1. Chapter 5. Value Investing
      1. What is a value share?
      2. The value premium
      3. Value investors
      4. The P/E value premium: early years
    2. Chapter 6. Efficient Markets and the CAPM
      1. Efficient markets
      2. The Capital Asset Pricing Model (CAPM)
      3. Arbitrage Pricing Theory (APT)
      4. Reconciling efficient markets and the value premium
      5. Later years: the P/E sidelined
    3. Chapter 7. Accepting Reality: The Fama and French 3-Factor Model
    4. Chapter 8. Value Investors Fight Back
      1. The P/E effect in the UK
      2. Rehabilitating the P/E
  9. PART III. Improving the P/E
    1. Chapter 9. Developing the P/E
      1. The industry-adjusted P/E
      2. The time-relative P/E
      3. The P/E using operating income
    2. Chapter 10. The PEG Ratio
      1. What is the PEG ratio?
      2. Why can’t we predict earnings growth rates?
      3. So what use is the PEG ratio?
    3. Chapter 11. The Long-Term P/E
      1. Haynes’ long-term P/E
      2. What use is the long-term P/E?
      3. Running high and low P/E portfolios
    4. Chapter 12. Decomposing the P/E
      1. The year effect
      2. The sector effect
      3. The size effect
      4. Constructing the decomposed P/E
      5. Haynes and the decomposed P/E
      6. Testing the decomposed P/E
    5. Chapter 13. A Cautionary Tale: The Naked P/E
      1. How many shares should you hold?
      2. Allowing for risk
      3. A final portfolio example
    6. Chapter 14. Have We Rescued the P/E?
  10. PART IV. Beyond the P/E
    1. Chapter 15. Ben Graham: The P/E and the Margin of Safety
    2. Chapter 16. Joel Greenblatt: The P/E and Return on Capital
    3. Chapter 17. Joseph Piotroski: The P/E and the Fscore
      1. How is the Fscore calculated?
      2. Example: Haynes’ Fscore
      3. How well can the Fscore predict returns?
      4. The Fscore in the UK
      5. The Fscore and the P/E
      6. Going beyond the P/E
  11. Conclusion
  12. Appendix: FTSE 100 EPSs and P/Es
  13. Glossary
  14. References