Monday, 6 February 2012

A Pricey P/E

High Pricey P/E

A company may be selling at an exceptionally high P/E because it is considered to have remarkably good prospects for growth.

No matter how high the quality of the car you are looking at, there is a price at which it is no longer worth buying.  No matter how junky a car is, there is a price at which it is a bargain.  Stocks are no different.

Some stocks with high multiples work out, but investors who consistently buy high multiple stocks are likely to lose money in the long run.

Often the highest multiples are present in a bull market which increases the risk.  

Graham and Dodd observed, " It is a truism to say that the more impressive the record and the more promising the prospects of stability and growth, the more liberally the per-share earnings should be valued, subject always to our principle that a multiplier higher than 20 (i.e., 'earning basis' of less than 5%) will carry the issue out of the investment range."

It is not wrong to pay more, Graham and Dodd noted; it is simply that doing so enters the realm of speculation.

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