A report on the website of Fool says the P/E - the price of stocks divided by their last 12 months of earnings - in the S&P 500 are cheaper as a group today than they have been for 12 years.
Year Q2-Ending S&P 500 P/E
Today 16.62
June 30, 2007 17.34
June 30, 2006 17.05
June 30, 2005 18.80
June 30, 2004 20.32
June 30, 2003 28.21
June 30, 2002 37.02
June 30, 2001 33.28
June 30, 2000 28.02
June 30, 1999 33.46
June 30, 1998 29.10
June 30, 1997 21.83
June 30, 1996 19.21
June 30, 1995 15.82
"Mid-2003, when the large caps in the S&P 500 had a trailing P/E of 28, was actually a pretty good time to be making investments because the earnings in the denominator were so depressed that the ratio was misleading without taking normalised earnings levels into account.
"So, today's low prices for a dollar of the past year's earnings could be an indicator that it is an especially good time to invest new funds in the market,"the report said.
As the table shows, net profit margins can move dramatically on a company-by-company basis. Also, buying and selling established businesses on the basis of a temporary spike or decline in profit margins can be worth your while. Getting out of Yahoo! in 2005 would have worked out pretty well. The same goes for folks who picked up shares of General Motors after its disastrous 2005.
Today's S&P 500 profit margins are probably not indefinitely sustainable -- even given the significant productivity improvements across the economy. At the very least, investors cannot expect further improvements in profit margins to mirror the improvements over the past five years.
2. Contribution from energy and financials.
A second argument frequently voiced against putting too much reliance in today's S&P 500 P/E level is that if you subtract the financial and energy companies from the totals -- two sectors that show particularly low P/Es, coupled with high earnings -- the P/E for the rest of the companies in the S&P 500 moves up significantly.
It is true that an energy company such as ExxonMobil (NYSE: XOM) has a P/E of 12, and Citigroup (NYSE: C) trades for 11 times its earnings. And with the ongoing and justified concerns about subprime lending and the effects on earnings that have yet to be revealed, we could see earnings for financials moving down instead of up over the next few quarters.
Anybody who wishes to forecast the profits of energy companies over the short term is welcome to try, but such profits are cyclical, and at peaks shouldn't be accorded high P/Es.
Still, excluding the best performers from a group and declaring that the rest of the group isn't priced quite as cheap is always going to be true. I don't put that much faith into this attack on today's lower P/E levels.
Shift your focus
It's well worth noting that today's large-cap P/E levels are more attractive than they have been for years, and that there are reasons why the simple bottom line doesn't tell the whole story.
It's also worth noting that Wharton professor, best-selling author, and leading market historian Jeremy Siegel has said that given the low trading costs and ease of diversification today, P/E levels of around 20 are probably justified for the future. If that turns out to be the case, today's levels are certainly one of the better buying opportunities you'll find.
But at The Motley Fool, we've always been far more focused on individual companies than the stock market as a whole. That's helped our leading newsletter, Stock Advisor, turn in stock recommendations that have produced 66% returns over its five-year history vs. 28% returns for the S&P 500.
Year Q2-Ending S&P 500 P/E
Today 16.62
June 30, 2007 17.34
June 30, 2006 17.05
June 30, 2005 18.80
June 30, 2004 20.32
June 30, 2003 28.21
June 30, 2002 37.02
June 30, 2001 33.28
June 30, 2000 28.02
June 30, 1999 33.46
June 30, 1998 29.10
June 30, 1997 21.83
June 30, 1996 19.21
June 30, 1995 15.82
"Mid-2003, when the large caps in the S&P 500 had a trailing P/E of 28, was actually a pretty good time to be making investments because the earnings in the denominator were so depressed that the ratio was misleading without taking normalised earnings levels into account.
"So, today's low prices for a dollar of the past year's earnings could be an indicator that it is an especially good time to invest new funds in the market,"the report said.
As the table shows, net profit margins can move dramatically on a company-by-company basis. Also, buying and selling established businesses on the basis of a temporary spike or decline in profit margins can be worth your while. Getting out of Yahoo! in 2005 would have worked out pretty well. The same goes for folks who picked up shares of General Motors after its disastrous 2005.
Today's S&P 500 profit margins are probably not indefinitely sustainable -- even given the significant productivity improvements across the economy. At the very least, investors cannot expect further improvements in profit margins to mirror the improvements over the past five years.
2. Contribution from energy and financials.
A second argument frequently voiced against putting too much reliance in today's S&P 500 P/E level is that if you subtract the financial and energy companies from the totals -- two sectors that show particularly low P/Es, coupled with high earnings -- the P/E for the rest of the companies in the S&P 500 moves up significantly.
It is true that an energy company such as ExxonMobil (NYSE: XOM) has a P/E of 12, and Citigroup (NYSE: C) trades for 11 times its earnings. And with the ongoing and justified concerns about subprime lending and the effects on earnings that have yet to be revealed, we could see earnings for financials moving down instead of up over the next few quarters.
Anybody who wishes to forecast the profits of energy companies over the short term is welcome to try, but such profits are cyclical, and at peaks shouldn't be accorded high P/Es.
Still, excluding the best performers from a group and declaring that the rest of the group isn't priced quite as cheap is always going to be true. I don't put that much faith into this attack on today's lower P/E levels.
Shift your focus
It's well worth noting that today's large-cap P/E levels are more attractive than they have been for years, and that there are reasons why the simple bottom line doesn't tell the whole story.
It's also worth noting that Wharton professor, best-selling author, and leading market historian Jeremy Siegel has said that given the low trading costs and ease of diversification today, P/E levels of around 20 are probably justified for the future. If that turns out to be the case, today's levels are certainly one of the better buying opportunities you'll find.
But at The Motley Fool, we've always been far more focused on individual companies than the stock market as a whole. That's helped our leading newsletter, Stock Advisor, turn in stock recommendations that have produced 66% returns over its five-year history vs. 28% returns for the S&P 500.
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