Learn about P/E ratios, price-to-book-value ratios, price-cash flow ratios, debt-to-equity ratios, plus other steps to strong investment portfolio analysis.
We focus on helping investors build portfolios that will generate attractive returns over long periods, and avoid deep downturns during market setbacks.
We‘ve refined our approach over the years, but it still bears a close resemblance to the rules we first heard about 40 years ago. We’ll stick with them until we find better tools for managing investments, limiting risk, and conducting successful investment portfolio analysis.
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Price-earnings ratios (or p/e ratio): The p/e is the ratio of a stock’s market price to its per-share earnings. As a general rule, the lower the p/e, the better, and generally a p/e of less than 10 represents value.
Price-to-book-value ratios: The book value per share of a company is the value that the company’s books place on its assets, less all liabilities, divided by the number of shares outstanding. Book value per share gives you a rough idea of the stock’s asset value.
Price-cash flow ratios: Simply put, this is earnings without taking into account non-cash charges such as depreciation, depletion and the write-off of intangible assets over time. It’s actually a better measure of a company’s performance than earnings.
Debt-to-equity: When a company loses money, it still has to pay the interest and eventually repay the debt. Generally it does so by dipping into shareholders’ equity. A high ratio of debt to equity increases the risk that the company (that is, the shareholders’ equity in the company) won’t survive a business slump.
Going beyond ratios in investment portfolio analysis: find out what an investor should look for.
Once we’ve found a company that looks attractive using the financial ratios detailed above, we look deeper to determine that it has a solid business in an attractive industry, with a history of rising sales and earnings, if not dividends. Even a stock whose financial ratios look good can stagnate if the company or its industry is in a difficult period. But if it’s a high-quality company, it’s likely to hold up better than other alternatives. Better still, it may be first to move up when conditions improve.
A few simple steps to give you investment portfolio analysis results you can feel confident about
Start by listing all your holdings on a single electronic file (or piece of paper), and converting their value to Canadian funds. Then you’d separate them by securities type. In particular, you’d want to group your stocks (plus equity-type holdings like REITs) in one section, and your bonds and other fixed-return investments, like GICs, in the other.
Our one-big-portfolio analysis can go a lot deeper for our wealth management clients. But the balance between stocks and bonds—call it equity and debt if you prefer—is a key indicator. That’s because bonds give you higher stability than stocks in the long term, but at a cost of lower returns than stocks.
Next, you’d determine the economic sector of each of your stock holdings. Then, add up the value of each of your stocks, and the total value of all your stocks. Do that and you can determine how much representation your stocks give you in each of the five main economic sectors—Utilities, Finance, Resources & Commodities, Consumer Goods & Services, and Manufacturing & Industry. This too is crucial.
The Manufacturing and Resources sectors generally expose investors to above-average risk. Stocks in the Utilities sector generally expose you to below-average risk. The same goes for stocks in the Canadian segment of the Finance sector, particularly the top five Canadian banks. The Consumer sector falls somewhere in the middle.
By weighing the balance among the five sectors, you can form an idea of the degree of overall risk in this investment portfolio.
Next you’d go on to apply our TSINetwork Ratings to each of the individual holdings in your portfolio. Our common stock ratings are Highest Quality, Above Average, Average, Extra Risk, Speculative and Start-up. You’d want to make sure that your stocks are made up predominantly of “Average” or higher-quality stocks that we currently recommend as buys.
We apply our portfolio-analysis technique much more deeply for our Successful Investor Wealth Management portfolio clients, of course. But applying just this much of it puts you far out ahead in understanding how much you’re exposed to with your portfolio, and how close it comes to being right for your objectives and temperament.
Do you follow these steps to your investment portfolio analysis? What others do you use?
How often do you review all of your investments? At least once a year? More often? Never?
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I have been using a MS spread sheet for at least the last ten years and find it the easiest method of assessing the diversification of my portfolio as well as risk level and re- balancing when needed. The spreadsheet is updated once a month or when I decide to buy or sell a particular equity. It’s the only way to go when you are in a self directed portfolio.
Richard, good planning is a key part of the Successful Investor approach….Keep it up.
First, i am retired. I don’t buy resources stock and sometimes manufacturing stock. I am 100% stocks.
I rely on you for fondamentals analysis, I checked my stocks against their 50 and 200 day moving average every weeik end. I classify them by sectors in a yahoo portfolio that tells me anualized yield. I look for 10% with dividend.
Thanks. Sounds like you’ve been able to benefit from our publications and research…we look forward to continuing to be of service to you.