Smart value investors constantly search for stocks that
offer
huge bargainsto prospective shareholders. Even after a
huge rally that has lifted stock prices well off their lows,
you can still find
stocks trading at fairly attractive prices.
However, any time you make investment decisions based on
valuations, you have to be careful. If you throw out stocks
that look too expensive by simple measures of value, then you
may miss out on companies whose future growth prospects
justify an earnings multiple well above what you'd expect
from less promising stocks.
Conversely, given how much the recession has dampened
investors' appetite for stocks, you can find some stocks
trading at
ridiculously low P/E ratios. But if those earnings
multiples are based on past earnings that the company is
unlikely to meet again in the near future, then you could be
in for a big surprise when you see earnings drop, making what
seemed a bargain appear much more expensive.
What the future holds
Low P/E ratios shouldn't automatically make you
salivate over a stock. Bear in mind that the vast majority of
investors aren't stupid, so there's almost always a good
reason share prices are as low as they are. After you take a
closer look, you may find out what that reason is -- and it
may save you from making a
huge investing mistake.
For instance, the following stocks trade at relatively low
P/E ratios that certainly look attractive at first glance.
But when you look at how Wall Street expects those companies
to perform in the future, you'll notice that their
earnings will probably fall-- in some cases dramatically
-- pushing forward P/E ratios much higher than the current
trailing P/E:
Stock
Current Trailing P/E
Projected Forward P/E
Cardinal Health (NYSE: CAH)
9.0
13.4
Discover Financial Services (NYSE:
DFS)
5.6
20.1
Sunoco (NYSE: SUN)
5.4
11.8
U.S. Steel (NYSE: X)
13.6 Continued... |