Magic Numbers and Relative Valuations

So many people I speak to, seem to believe there are some magic numbers out there that equate to stock picking success. Two things in particular that I hear over and over again when I’m helping people with their screening strategies, relates to P/E Ratios and Price/Book Values.

For some reason, many people believe that P/E Ratios of 20 or less and Price/Book Values of 1 or less are these so-called magic numbers.

Unfortunately, statistics prove otherwise.

Looking at the best performing stocks since the beginning of the year, (as qualified by stocks that were trading at $5 or higher at the beginning period, traded on average of 50,000 shares a day and that have increased in price by 50% or greater YTD), the average P/E Ratio at that time (using 12 mo. EPS Actuals), was over 33.

That’s more than 1 1/2 times the ‘magic P/E numbers’ that people too often look for. And the average P/E ratio for those stocks now is over 41. More than twice that of the ‘magic numbers’.

True, there were/are stocks in there with P/E’s under 20, but you would’ve missed a lot of fantastic winners if you excluded those with P/E’s over 20.

As for the average Price/Book Value, the best performing stocks showed values over 4 at the beginning of the period and now more than 5. (That’s right, 5!)

In fact, only 1 stock out of the 67 stocks on that list, currently has a Price/Book Value of 1 or less.

So if you insist on looking for stocks with ‘low’ valuations (P/E, P/B), try looking for ‘low’ valuations as compared to their Industries. Why? Because 70% of the stocks on that list of winners had P/E’s under the average for their Industry and close to 60% had P/B’s under the average for their Industry.

So instead of thinking about ‘low’ valuations as an absolute number, try thinking about them as a relative measure. And I’ve found that companies that are outperforming their Industries on earnings but are ‘undervalued’ to their group in terms of valuations are great candidates.

So this week I’m looking for companies with upward price momentum that are trading over $5, have a minimum average trading volume of 50,000 shares a day, have shown greater EPS growth over the last 2 quarters than their Industry’s average and have lower P/E’s and Price/Book Values than their Industry’s average.

Here’s a few from that screen that look ready to breakout;

( MWV - Analyst Report ) MeadWestvaco Corp.
( SPN - Snapshot Report ) Superior Energy Services, Inc.
( TDS - Analyst Report ) Telephone & Data Systems, Inc.

Try incorporating some of these ideas into your own stock picking strategies. And while relative valuations aren’t available in most screeners, they are available in the Research Wizard. (Not to mention 650 other items too).

Click here to learn more about the Research Wizard stock picking and backtesting software and our free trial offer. Click here and find out how .