How To Size Up Any Stock Quickly and Easily
If you have been using the Price-to-Earnings ratio as a tool for sizing up potential investments, you had better think again, because with all of the accounting tricks the corporate CFO has available to fudge its earnings, that "E" in the P/E equation is now highly questionable.
While Enron may have gained fame most recently for "fooling around" with its earnings numbers, they are by no means alone in this respect. Even Standard & Poors who publish the S&P 500 Index has itself been known to change the Index drastically from one week to the next simply by changing the way they calculate earnings.
So it's important for investors to realize that the time honored ways of analyzing the stock market are no longer relevant - having fallen victim to both "creative accounting" and "procedural changes."
And now I would like to recommend that you discard the P/E ratio and concentrate on Sales instead of Earnings and you do that by using the Price-to-Sales Ratio (P/S) when evaluating stocks for potential purchase.
The Price-to-Sales Ratio compares the price of a stock to that company's sales for the year. And because it is much harder to mess with the sales figures (but not impossible), the P/S ratio serves as a better gauge for determining the true value of a company.
When you crunch the numbers, the P/S ratio turns out to be a very valuable indicator. Stocks on average have traded historically at just under one times sales. Thus, if you buy stocks when they are cheap based on this ratio, you should do much better than you would if you bought when stocks are expensive.
The easy rule of thumb to remember for a rough estimate as to the fair value of any business is one-time sales. However, this does not mean that you should avoid all stocks that trade above one-time sales. Rather, the P/S ratio merely serves as a good yardstick for measuring whether or not you are paying too much or too little to invest.
The Price-to-Sales ratio is easy to find. It is listed on the Yahoo!Finance web site for each stock. And best of all, you don't have to be an accounting expert in order to use the P/S ratio to determine if a particular company is cheap or expensive.
* * * * *
While Enron may have gained fame most recently for "fooling around" with its earnings numbers, they are by no means alone in this respect. Even Standard & Poors who publish the S&P 500 Index has itself been known to change the Index drastically from one week to the next simply by changing the way they calculate earnings.
So it's important for investors to realize that the time honored ways of analyzing the stock market are no longer relevant - having fallen victim to both "creative accounting" and "procedural changes."
And now I would like to recommend that you discard the P/E ratio and concentrate on Sales instead of Earnings and you do that by using the Price-to-Sales Ratio (P/S) when evaluating stocks for potential purchase.
The Price-to-Sales Ratio compares the price of a stock to that company's sales for the year. And because it is much harder to mess with the sales figures (but not impossible), the P/S ratio serves as a better gauge for determining the true value of a company.
When you crunch the numbers, the P/S ratio turns out to be a very valuable indicator. Stocks on average have traded historically at just under one times sales. Thus, if you buy stocks when they are cheap based on this ratio, you should do much better than you would if you bought when stocks are expensive.
The easy rule of thumb to remember for a rough estimate as to the fair value of any business is one-time sales. However, this does not mean that you should avoid all stocks that trade above one-time sales. Rather, the P/S ratio merely serves as a good yardstick for measuring whether or not you are paying too much or too little to invest.
The Price-to-Sales ratio is easy to find. It is listed on the Yahoo!Finance web site for each stock. And best of all, you don't have to be an accounting expert in order to use the P/S ratio to determine if a particular company is cheap or expensive.
* * * * *
posted by Bob Moser at
10:36 PM
0 Comments:
Post a Comment
<< Home