Genius? (Stock Price - Book Value)/EPS

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GoldenPuppy
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Joined: Wed Apr 27, 2011 5:29 pm

Genius? (Stock Price - Book Value)/EPS

Post by GoldenPuppy »

Has someone else come up with this already? Any downsides? Of course, the formula doesn't work for companies with negative EPS (i.e., the financial industry). The lower the resulting number, the "better" the investment, in my view. What do you think? Is there a superior formula out there?

Some sample calculations:

Ticker, Price, Book Value, EPS, result
CINF, 32.12, 30.87, 2.31, 1
BBT, 25.98, 23.67, 1.16, 2
AA, 16.97, 13.84, 0.71, 4
GE, 19.95, 11.2, 1.06, 8
JNJ, 64.07, 20.66, 4.41, 10
KO, 67.88, 13.53, 5.06, 11
MMM, 93.92, 22, 5.63, 13
CLX, 69.52, 0.90, 4.06, 17
SAM, 91.97, 12.52, 3.52, 23
VZ, 36.91, 13.64, 0.90, 26
livesoft
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Post by livesoft »

Ms. Puppy, I just had to respond. What an interesting idea! I am amazed that you overcame the activation energy to register and post today. I am also curious about how new posters found this site and got motivated enough to post. You first post is so out of blue for this site, that I must ask directly:

How did you find this site?
and
What motivated you to post this question here as opposed to some other place?

I hope you are not offended, but I am genuinely curious because I don't go looking for a forum to post new ideas anymore, but I guess some people do.

Thank you!
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FredPeterson
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Post by FredPeterson »

Problem is, book value is the literal value of assets only and has no projection of the future profits or other intangibles that, while fleeting and more about emotion, they represent a real additional value of the business.
Topic Author
GoldenPuppy
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Joined: Wed Apr 27, 2011 5:29 pm

Post by GoldenPuppy »

Thank you for the comments.

livesoft - I am a FWF transplant. I was prompted to post here because there was a whole section devoted to investing theory and news.

FredPeterson - Thank you for your perspective. Both things you mentioned were something I considered a drawback. My solution for the second one is adjusting upwards or downwards the EPS to match one's gut feel of the company. For example, if it's currently $2.16 and you think the company's going to come in at $1.80 for the next X years, you can substitute $1.80 or some average thereof.
yobria
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Post by yobria »

I'm gonna go out on a limb and say the Wall Street pros that set the prices are aware of book values and EPSes, so variations in these metrics are already factored into the stock prices.

Nick
staythecourse
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Post by staythecourse »

Interesting calculation.

But how is this any different then me making an equation saying color of my tie-EPS/ grams of cereal I ate this morning?

Not trying to be difficult, but don't see how making a random equation up is helpful. I love the thought process you went through, however.

If I was you I would at least backtest the calculations and see what type of returns you would have gotten. The problem is like any other equation prior to this one they never seem to work going forward as the backtesting would make you believe.

Of course, there is the 200 moving day average (but I don't want to start another 30+ page thread. :D

Welcome aboard!!

Good luck.
Last edited by staythecourse on Mon May 09, 2011 7:55 pm, edited 1 time in total.
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kbrinaldi
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Post by kbrinaldi »

May I suggest to read "The Intelligent Investor" by Benjamin Graham?

I think you may enjoy it.
TigerNest
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Post by TigerNest »

Welcome to the forums, Goldenpuppy!

We're mainly dedicated to passive investment theory around here. This is the idea that retail investors can't beat the market net of fees more than 50% of the time, so it's best to hold most of our assets in a broad market mutual funds with very low cost structures. Most of the expertise on these boards (and it is ample) covers allocation among asset types (like stocks, bonds, REITs, TIPS, etc) rather than individual stock valuation.


That said, to answer your question what you've essentially got is a modified P/E multiple. It is helpful to understand what part of the price is being attributed to the company's assets vs. its potential future earnings.

The problem you may run into is that Book Value can be distorted fairly easily. For example, if I develop an invention internally that's worth $100 million, it won't show up on my balance sheet at all. However, if someone buys it from me for $200 million (and overpays for it) they will book it as $200 million. Similarly, if I bought a parcel of land in 1950 and never sold it, it'll still be booked at the price of acquisition even if it's appraised at a far greater value today.

(Price - Cash) / EPS is a more common metric, because you always know exactly what cash is worth.
The lower the resulting number, the "better" the investment, in my view.
I'd be careful with this rule. A higher price relative to earnings may just mean that earnings are expected to grow very quickly in the future. Conversely, a low (P-BV)/EPS multiple may just mean that earnings are expected to fall next year, so people are willing to pay less for the stock. Future expectations matter a lot --- you can see this play out when stocks react within seconds to earnings announcements.
Beantown85
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Post by Beantown85 »

GoldenPuppy wrote:My solution for the second one is adjusting upwards or downwards the EPS to match one's gut feel of the company. For example, if it's currently $2.16 and you think the company's going to come in at $1.80 for the next X years, you can substitute $1.80 or some average thereof.
Gut feel?
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JDInvestor
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Post by JDInvestor »

yobria wrote:I'm gonna go out on a limb and say the Wall Street pros that set the prices are aware of book values and EPSes, so variations in these metrics are already factored into the stock prices.
Agree with this wholeheartedly. There's an enormous industry of highly educated, highly compensated, highly sleep deprived individuals churning through numbers like this at all times.

It's possible to buy a stock and have its value increase greatly, but the odds of having a system to do so at a rate better than market average over a period of years and after costs is virtually zero - those who do will be lucky at ever increasing odds.
Grt2bOutdoors
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Re: Genius? (Stock Price - Book Value)/EPS

Post by Grt2bOutdoors »

GoldenPuppy wrote:Has someone else come up with this already? Any downsides? Of course, the formula doesn't work for companies with negative EPS (i.e., the financial industry). The lower the resulting number, the "better" the investment, in my view. What do you think? Is there a superior formula out there?

Some sample calculations:

Ticker, Price, Book Value, EPS, result
CINF, 32.12, 30.87, 2.31, 1
BBT, 25.98, 23.67, 1.16, 2
AA, 16.97, 13.84, 0.71, 4
GE, 19.95, 11.2, 1.06, 8
JNJ, 64.07, 20.66, 4.41, 10
KO, 67.88, 13.53, 5.06, 11
MMM, 93.92, 22, 5.63, 13
CLX, 69.52, 0.90, 4.06, 17
SAM, 91.97, 12.52, 3.52, 23
VZ, 36.91, 13.64, 0.90, 26
If the formula doesn't work for the financial industry, then why do you have 3 financially related companies listed. Don't forget, of those three listed, each had substantial banking operations or investments in thereof.
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ddb
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Post by ddb »

If CINF weren't a $5B company, I'd say the original post here screams as a "pump 'n dump" strategy for CINF.

- DDB
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downshiftme
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Post by downshiftme »

My solution for the second one is adjusting upwards or downwards the EPS to match one's gut feel of the company.
Is this not the same as what a so-called analyst does on Wall Street? Much as I love a numeric method that starts with a number you make up based on gut feel, I don't see why you think this is an improvement over the many other investment selection or timing methods people have tried. Is there a reason to believe your own gut feel with be more accurate than that of others who study these companies more or less full-time.
yobria
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Post by yobria »

Yeah, "gut feel" evolved for things like when the lion is about to pounce on you on the African Plain.

But it can't calculate free lunches in financial markets. It's just not that smart.

Nick
jmbkb4
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Post by jmbkb4 »

Genius?


No.
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HomerJ
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Post by HomerJ »

GoldenPuppy wrote:My solution for the second one is adjusting upwards or downwards the EPS to match one's gut feel of the company. For example, if it's currently $2.16 and you think the company's going to come in at $1.80 for the next X years, you can substitute $1.80 or some average thereof.
LOL... So we can just make up our own numbers based on our "gut" feelings?

Awesome!

This has guarenteed success written all over it!

(Oh, and welcome to the forum... We don't actually pick stocks here)
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