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Comparable Valuation and
Technical Analysis
Comparable valuation vs. fundamental
valuation
• The DCF model is a method of fundamental
valuation.
– Value of equity is the present value of future cash
flows.
– Ignores the current level of the stock market.
– Appropr iate for comparing investments across different
asset classes
– In the l ong run, fundamental valuation is the
theoretically correct method of valuing any asset.
Comparable vs. fundamental
valuation
• Comparable valuation is based on P/E
ratios and a host of other “multiples”
– Popular with the press, stock brokers,
– Used to value one stock against another.
– Cannot c ompare values across different asset
classes
Prices can be standardized using a common
variable such as earnings, cashflows,
book value or revenues.
Multiples
• Comparable valuation relies on the use of
multiples and a little algebra.
• For example: house prices..
House Price Sq ft. Price /sq ft
A 629,500$ 4,032 156.13$
B 595,000$ 3,621 164.32$
C 545,000$ 3,400 160.29$
D 499,000$ 3,400 146.76$
E 439,000$ 3,000 146.33$
Average 154.77$
What is the price of a 4,000 sq ft house?
Answer: 154.77*4,000 = $619,080
Multiples can be misleading
•To use a multiple intelligently you must:
• Know what the fundamentals are that determine the
multiple.
• Know how changes in these fundamentals change
the multiple.
• Know what the distribution of the multiple looks like.
• Ensure that both the denominator and numerator
represents claims to the same group
• Ensure that the firms are comparable
Price Earnings Ratios
PE = Market Price per Share / Earnings per
Share
• There are a number of variants on the basic PE ratio in
use. They are based upon how the price and the
earnings are defined.
•Price:
– current price
– or average price for the year
• EPS:
– most rec ent financial year
– trailing 12 months (Trailing PE)
– forecasted eps (Forward PE)
PE Ratio: Understanding the
Fundamentals
• To understand the fundamentals, start with a
basic equity discounted cash flow model.
• With the constant growth dividend discount
model,
• Dividing both sides by the (forecasted) earnings
per share,
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