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A Look at Comparative Evaluations of Industry Groups

How can we, as small investors, figure out the proper price-earnings ratios for stocks in which we are interested? To begin with, we should know something about the comparative status of various stock groups or industry classifications. If, for instance, you know that chemical stocks are generally given multipliers of 20 to 30, then the first step is to determine the status of the company in question as a basis for allotting it a place between the lower limit of 20 and the upper limit of 30. Or, for another in-stance, if aircraft stocks are generally accorded 10 to 17 times earnings, then securities of this classification should be evaluated accordingly, unless some exceptionally well-situated issues should deserve higher multipliers due, say, to their heavy engagement in electronics or outer-space exploration.

A General Method of Determining Stock Prices

Price-earnings ratio is a much more realistic standard of measurement. Since every business is out to make money, it seems only logical to determine the price of a stock on the basis of the amount of money the company is able to learn, The general practice is to price a stock on the basis of a company’s latest twelve-month earnings multiplied by a figure which varies _de-pending on the market appraisal of a. particular situation. Some stocks are evaluated as low as 4 or even 3 times earnings, while others as high as 30, 40, 50 or even more times.
The 425 industrial stocks composing the Standard & Poor index are selling at an average of 19 or so times their latest twelve month earnings. The more the market values a certain stock, the higher it places its multiplier, and vice versa.
If you have some idea about the kind of multiplier the market is likely to accord a certain stock, you should be able to get into the situation at a profitable level. The question is, of course, how?
Generally speaking, the 19 or so times earnings for Standard & Poor’s industrial stocks is undoubtedly high, compared with 12 to 15 times earnings for the inflationary period of 1954-57. Historically, the average ranged from a low of 7.4 in October 1906 to a high of 21.5 in May 1960. Some conservative-minded_ investors shudder at anything that violates the traditional rule of thumb that holds a stork should sell at approximately 10 times annual earnings
To the majority of today’s investors, however, this traditional standard of measurement is a yardstick of bygone days. To them, it is as outdated as old-time companies whose high-failure rate made stockholders insist on an annual yield of 6 per cent for their risk. In order for a company to pay a 6 per cent dividend, it had to earn 10 per centhence the 10-times-earnings yardstick. This was, of course, before unemployment compensation, before the Employment Act of 1946 and before many other welfare economies of the Roosevelt and Truman administrations. The nation’s economic structure changed long ago. The vastly changed fundamental environment apparently accounts for the average investor’s willingness to buy many stocks at prices which are con-sidered high by the traditional standard.

Should You Sell on Good News?

To wait for a little confirmation through increased price and volume in a stock is one thing; to wait final confirmation in the form of news announcement is quite another.

You are more likely to lose money if you insist on not buying until good news is officially confirmed. That’s why the Wall Street adage says “Sell on good news.”
Why do professionals sell on good news? Because, in the words of William A. Doyle of the highly popular The Daily Investor, “many other people (mostly non-professional) will jump in to buy the stock on the good news and they will sell out at a good price.”
“Also,” continues Mr. Doyle, “good news often leaks out and gets around before it is formally announced. If the people who have advance knowledge of the news do a lot of buying, that will often send the price of the stock up. Then, if they and others sell when the good news is official, the price of the stock may dip.”