 # P/E

Hi I’ve inserted page #s from CFAI Volume 3 as reference. Q 1) p172 - Want to distinguish Trailing P/E0 versus Forward P/E1. Trailing P/E0 = (D0/E0) / (k-g) ? Forward P/E1 = (D1/E1) / (k-g)? Is this correct? If not, can you please provide the correct formulae? Q 2) p178 - Under the section that compares the High Estimate vs the Low Estimate, I understand the Low Estimate which takes the low end of D/E range and the high end of k-g spread in order to derive a Low P/E Estimate. However while the High Estimate takes the high end of the D/E range, why doesn’t it take the low end of k-g spread? It is taking the mid point of k and the mid point of g. Why? Thanks guys!

bidder Wrote: ------------------------------------------------------- > Hi > I’ve inserted page #s from CFAI Volume 3 as > reference. > > Q 1) p172 - Want to distinguish Trailing P/E0 > versus Forward P/E1. > Trailing P/E0 = (D0/E0) / (k-g) ? > Forward P/E1 = (D1/E1) / (k-g)? > Is this correct? If not, can you please provide > the correct formulae? > P= (D1) / (k-g) =(D0)(1+g) / (k-g) so Forward P/E1 = (D1/E1) / (k-g) trailing P/E0 = (D1/E0) / (k-g) = (D0/E0)(1+g) / (k-g) > Q 2) p178 - Under the section that compares the > High Estimate vs the Low Estimate, I understand > the Low Estimate which takes the low end of D/E > range and the high end of k-g spread in order to > derive a Low P/E Estimate. > However while the High Estimate takes the high end > of the D/E range, why doesn’t it take the low end > of k-g spread? It is taking the mid point of k and > the mid point of g. Why? > Because taking low end of k and high end of g (lowest possilbe k-g) would yield a negative number (7%-8%) which is absurb, so they just pick the middle range to yield a smaller k-g than low estimate of PE. There is no fast rule about this. I believe Schweser uses a different approach.

Thanks elcfa. Follow up question on the P/E ratios. Your Forward P/E1 and Trailing P/E0 formulae are the same! (D1/E1) / (k-g) = (D0/E0)(1+g) / (k-g) So what is the difference between the two?

what do you mean? They are not the same P= (D1) / (k-g) =(D0)(1+g) / (k-g)

> Since E1= E0*g > we have forward P/E = (D1/E1) / (k-g) = (D1/E0*g) > / (k-g) = trailing PE/g. Sorry I meant forward P/E = (D1/E1) / (k-g) = (D1/E0*(1+g)) / (k-g) = trailing PE/(1+g)

Hmmm… Im still a little confused of unconvinced. Can you please clarify the difference in the formulae between Forward P/E and Trailing P/E? I agree with the Trailing P/E calculation below (and agreed with AF users above). I’m not sure about the Forward P/E calculation below - are we sure we multiply D1/E0 by 1+g again? Trailing P/E0 = (D1/E0) / (k-g) = [(D0/E0) * (1+g)] / (k-g)? Forward P/E1 = (D1/E1) / (k-g) = [(D1/E0) * (1+g)] / (k-g)?

Are you guys in US?

Ok Let’s take this baby one step of the time. Per def: P= (D1) / (k-g) D1=(D0)(1+g) E1=(E0)(1+g) or E0= E1/(1+g) D1/E1 = D0/E0 =pay out ratio D1/E0 = D1/(E1/(1+g)) = (D1/E1)* (1+g) So Forward PE= P/E1 --> [(D1) / (k-g)]/E1 = (D1/E1) / (k-g) Trailing PE = P/E0 --> [(D1) / (k-g)]/E0= (D1/E0) / (k-g) = (D1/E1)* (1+g) /(k-g) =forward pe* (1+g) As a rule, forward pe is smaller of the two for a growing company.

Thanks for the explanation elcfa I get it now. However, I think you got some of the calcs incorrect. D1/E1 is not = D0/E0 D1/E0 = D1/(E1/(1+g)) D1/E0 is not = (D1/E1) * (1+g) – > SHOULD BE D1/E0 = [D0* (1+g)] / E0 Trailing PE is not = (D1/E1)* (1+g) /(k-g) --> SHOULD BE Trailing PE = {[D0* (1+g)] / E0} /(k-g) I agree with the rest of what you have written.

cfaboston28 Nope, not is the US, in Asia I’m guessing you’re in Boston, in the US!

bidder Wrote: ------------------------------------------------------- > cfaboston28 > > Nope, not is the US, in Asia > I’m guessing you’re in Boston, in the US! Yes I was in Boston but I moved to different place last year. I was wondering about you guys posting mid night US time.

> D1/E1 is not = D0/E0 > D1/E0 = D1/(E1/(1+g)) > D1/E0 is not = (D1/E1) * (1+g) – > SHOULD BE > D1/E0 = / E0 > Trailing PE is not = (D1/E1)* (1+g) /(k-g) --> > SHOULD BE Trailing PE = { / E0} /(k-g) > Nope. D1/E1 = D0/E0 = dividend pay out ratio =1- b (b=retention rate) is which is assumed to be constant (for all periods). D and E should therefore grow at the same rate, which is g. Trailing PE uses the last period earnings, thus E0 Leading PE uses coming period’s earning, thus E1. Suggest you crack open level II book and double check all this.

cfaboston28 Sorry, did not see your question till now. I am in Europe.

folks, what’s with all this back and forth. Trailing P/E: P/E0: Since P = D1/(k-g), P/E0 = (D1/E0)/(k-g). Forward P/E: P/E1. E1 = E0 * (1 + g). Again, P = D1/(k-g), so P/E1 = (D1/E1)/(k-g) = (D1/(E0*(1 + g)) / (k-g). From above, we know that Trailing P/E = (D1/E0)/(k-g), so substituting gives you: Forward P/E = Trailing P/E / (1 + g), or in other terms, Trailing P/E = Forward P/E * (1 + g). Remember, Forward P/E is less than Trailing P/E, as elcfa mentioned.

Wow…i didn’t even know this stuff was in L3…I never even looked at it.