Hi guys, Hope you are all going great with studying, I have one question on Reading 37 and I would like to invite your views: On p.121 (Ibbotson Chen formula) CFAI says that “baseline value for the expected growth in the P/E ratio is zero reflecting an efficient markets view. A positive value is justified for undervaluation and a negative for overvaluation”. Can someone explain this?
Well, if the P/E ratio is expected to increase, then all else being equal you’ll see an increase in stock price. This makes you money. If the P/E ratio is expected to decrease, then all else being equal you’ll see a decrease in stock price. This loses you money. A stable P/E ratio will do nothing for you, all else being equal.