The simple answer is no. And I will explain. Value investing Philippines is about investing in value. Every business has its value, a price that is different from the stock price. That value is not really a pinpoint accurate value. Its much more of an estimate and a range. And one of the “giver” of value is earnings power. And the most comprehensive metric to use when valueing a business’ earnings power is the P/E ratio.
What is a P/E Ratio?
In math’s term, its just the price over the earnings. Some people call it the earnings multiple. Some call it just PE. You can also use the market cap of a company over its net earnings to arrive at the same figure.
PE ratio = Market cap / Net Earnings
Ben Graham, later in his life, talked about just using P/E to analyze a stock. Saying that, if you get a couple of stocks in a portfolio with low PE ratios, you will have a good performance for over the long term. This strategy, as simple as it may sound, is very logical. And there are researches that suggests the viability of this strategy and its overperformance against the index. In other words, just picking low PE stocks will outperform the index.
Graham was trying to help out the ordinary person. An ordinary investor when he disclosed this strategy to the world. But the thing is, you can still do better. His strategy minimizes too much analysis, and focus on a more “formulaic” way of investing. Just use screener, buy the top 30 low PE stocks and you’re done. No added work required.
But there’s a problem. Not all low PE stocks are a good investment. What Graham was trying to do was to play within a set of probabilities. In a 30 stock portfolio of low PE stocks, there will be winners and there will be losers. Low PE stocks are low PE for a reason. And that reason may be true. A business going bankrupt may have a low PE. But that doesn’t mean its a good investment.
Graham’s genius was playing the probabilities. If we could analyze the low PE stocks. Analyze each businesses representing those stocks one by one, we are bound to make the probabilities even better. Because we are going to weed out the low PE stocks that are bad. And remain in the portfolio the low PE stocks that are good businesses.
But the real question is, would PE stock be the most important value investing metric of all?
No. Its just one of those metrics that we can use to know if something is good. Value investing can be compared to flying a plane. There are a lot of gauges that you have to look at. A lot of switches and levers you have to manipulate all at once. Once gauge is no more important than the other. Everything is important to fly a plane. And value investing is just like that. Every metric tells a different story. So its up to the value investor to know the story and decide if the business is a good investment.