Silicon Investor (SI) -- The First Internet Community

STOCKTALK

We've detected that you're using an ad content blocking browser plug-in or feature. Ads provide a critical source of revenue to the continued operation of Silicon Investor. We ask that you disable ad blocking while on Silicon Investor in the best interests of our community. If you are not using an ad blocker but are still receiving this message, make sure your browser's tracking protection is set to the 'standard' level.

Technology Stocks : Vitesse Semiconductor -- Ignore unavailable to you. Want to Upgrade?

To: JZGalt who wrote (2680)	7/5/1999 1:38:00 PM
From: Chuzzlewit	Read Replies (1) \| Respond to of 4710

I think you are missing the point. Let me illustrate: First, if you were to buy a 30 year bond you could get a yield to maturity of around 6%. Inverting the figure gives you a P/E of 16.7 If yields drop the P/E rises. That illustration ought to convince you that PEG ratios are meaningless unless placed in an interest rate context, which means that all other things being equal, as interest rates drop PEG ratios rise. Second, the only reason that stocks command high forward P/Es is the assumption that earnings (or more properly, free cash flow) will grow. But the P/E is only a shorthand for the present value of those future cash flows. When an analyst uses a forward P/E it is really a short hand that assumes a discounted value for an infinite stream of cash flows. But many investors don't understand these concepts, so it is easier for the analyst to encapsulate them in terms of an arbitrary P/E. The analyst is really saying that he believes that the stream of future cash flows equates to a certain price. He then expresses that price in terms of expected earnings for a particular year (hence, the P/E). It does not mean that he bases his target price on that year's earnings. I think that it is the failure of the investment community to understand the economic basis for valuation that leads to wide price swings. After all, if it is commonly accepted that a stock ought to trade at a particular P/E ratio, and the economy enters a temporary down turn, then investors might bid the stock down to levels that are below those predicted by DCF -- and that creates buying opportunities. An interesting side note: Jeremy Siegel, in Stocks For The Long Run points out that stocks actually out-perform all other investments during periods of inflation (during which P/Es contract substantially), although not in the short run. This book is definitely worth reading if you ar a long-term investor TTFN, CTC