If you take today's share price and divide it by one year of earnings per share taken from a company's results six or more years ago it will, in general, be a more powerful predictor of future stock market returns than using this year's earnings.
That remarkable fact reminds me how many investors take the price earnings ratio for granted. Almost all of us use it but how many have really scrutinised it? Few have built their career around the PE, but Dr Keith Anderson, a finance lecturer at the University of York, has.
Before I introduce the cheapest six stocks this month, here’s the performance of previous £6,000 portfolios created using Dr Keith Anderson’s extreme price earnings ratio, the Naked PE, one year, two years, and
Naked PE exposed When we introduced the Naked PE to readers of this blog in 2007, its historical record promised amazing predictive power. A £1,000 portfolio of the five lowest Naked PE shares formed in 1975 and rebalanced every year (i.e. sold and reinvested in the new five lowest Naked PE shares) would have been worth nearly £7m in 2007, a compound return of 32%. Extremely cheap shares delivered extremely good returns.
In practice:160% in six months ain’t bad For the first time since February 2007, I’m starting our quarterly exercise in bottom fishing, ‘the cheapest six stocks on the market’, with good, even spectacular, news.