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The Search For Cheap Stocks
ear Fellow-Investor. future growth, and have bid up
the stock's price.
Whenever the stock markets
have consolidated and broken down The thing about P/E ratios is
significantly, thousands of that conservative investors
bargain hunters are on their way should avoid stocks with a high
to try and find the one dirt P/E ratio because if these
cheap stock in the hope of corporations disappoint with
cashing in large profits once it their earnings and don’t meet
goes up again! market expectations, the stock
will drop dramatically like Whole
But when exactly is a stock Foods did dropping more than $20
cheap? For many investors a stock at the beginning of November
is only cheap when the 2006.
price-earnings ratio (P/E ratio)
is low. So the lower the If a stock has a low P/E ratio,
price-earnings ratio the better where expectations aren’t that
it is for them on speculations high, the reaction is far less
that it will go to where it was dramatic if earnings and
before the stock dropped, if it performance expectations aren’t
goes up again. met.
To recap. A price-earnings ratio But if trading and investing in
shows the multiple of earnings at the stock market was that easy,
which a stock sells. Determined everybody would just buy stocks
by dividing current stock price with a low P/E ratio. To bad so
by current earnings per share sad that no one would have then
(adjusted for stock splits). A had Starbucks in their portfoilo.
higher multiple means investors A stock that shot up sky high in
have higher expectations for the past. A low P/E ratio doesn’t
exist in Starbucks vocabulary! although both companies had a
high P/E ratio whereas Whole
If you disregard individual Foods, also having a high P/E
stocks that have dropped sharply ratio, dropped from $80 all the
and take a look at the broad way down to $40 in 2006, and EMC²
market, you’ll surprisingly is still hovering around $15 and
notice that a P/E ratio tells you hasn’t recovered yet since 2000
absolutely nothing about whether where the stock was trading at
a stock is going to go up or down just over $100.
in the future! Not only stocks
with a high P/E ratio can drop, So as you can see, there are no
but also stocks with a lower one rules whether a stock with a high
can. or low P/E ratio is good or bad!
A good example of the above is Why doesn’t this strategy work?
the following:
The problems already start at the
Within the last 4 years the Dutch very beginning. Which earnings
financial company ING, having a should one take into account? The
low P/E ratio, climbed to the reported earnings from the
skies from $10 to over $40. previous year; the expected ones
That’s over 300% profits, whereas for the current year or even the
AIG (American International forecasted earnings for the next
Group), also having a low P/E year?
ratio, was virtually dead in
comparison. Because the stock market mainly
looks at future performance and
On the other hand, Starbucks and earnings, the future P/E ratio
the German cosmetic company plays a more important role. But
Beiersdorf kept on going up even the expected earnings of the
current year can only be introduced the iPhone in Jan. 07,
estimated let alone the one for AAPL shot up by over $10 in two
next year. It all boils down to days. But then Cisco Systems
estimation and speculation which (CSCO) claimed that they had the
is quite common in the stock rights to the name iPhone and
market. But if these estimates were contemplating to sue AAPL if
are wrong and market expectations they were to continue using the
aren’t met, investors are then name iPhone. Well. Guess what
commonly very disappointed and happened? AAPL went down the
the stock or even the whole following days losing it’s entire
market goes down. And this $10 gain.
happens every year somewhere
along the line. So once again you can see that a
P/E ratio, whether high or low,
And this is not the only reason says way too little to base an
why a P/E ratio is not a good investment decision on!
formula for success. The furure
performance of a corporation Conclusion
depends on so many factors. A
future stock price doesn’t only At the end of the day, P/E ratios
depend on earnings from the or any other ratios are
current year or the next. It also absolutely irrelevant. What
depends largely on how well the matters most importantly in the
management does it’s job, whether long run are earnings and the
the company has a strong product overall performance and future
line or which possible problems outlook of a company! Short-term
the company may face. factors like oil prices,
political turmoil etc. can
An example of this is Apple influence the markets and they
(AAPL). When CEO Steve Jobs will more often than not! But in
the end these factors are Yours In Successful Trading!
secondary and negledgible for
long-term investments. Ricky Schmidt
About the Author:
Ricky Schmidt's website http://www.stockbreakthroughs.com was created out of frustration in trying to decode books, magazines and newsletters on the subject, which are supposed to be for beginners but are not because they’re too difficult to understand. Too many "Big Words" and too much intelligent sounding grammar is used which is not very useful.
Read more articles by: Ricky Schmidt
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