Today, I will kick off Capital Orbit’s “Investing Made Easy” video tutorial series. I have created a video tutorial for you that explains how to find the historical price to earnings ratios for any stock. Historical price to earnings ratios (P/E) are useful because we can compare the present P/E against past long-term data. For example, a stock might have run up in terms of valuation recently (different from an increase in price) and it might not be wise to invest at higher valuations if the fundamentals have not improved correspondingly. You can make this decision if you are aware of historical price to earnings ratios. With historical numbers you can also find a long-term average P/E for a stock.

## How to calculate historical price to earnings ratio video tutorial- Investing Made Easy series

I have analyzed historical price to earnings ratios for Mahindra & Mahindra Ltd. I have explained how to do it step-by-step. After seeing this video, you will be able to do this for a stock on your own. If you have any questions feel free to use the comments section below.

## Topics covered

- Why should you look at historical price to earnings ratios?
- How can you find historical stock prices for free from publicly available data?
- How can you make a decision on whether to use consolidated or standalone earning per share (EPS) figures?
- How can you calculate the historical price to earnings ratios at the end of a past year?
- How can you calculate average price to earnings (P/E) for your chosen period (e.g. 10 years)?
- How can you find trailing twelve months (TTM) P/E for a stock?
- What are the checks you should think of when doing these calculations?

## Video tutorial description

Less than 18 minutes. You might want to view this video in full screen or at higher resolution (by clicking the gear icon in the bar at bottom of youtube window) if some details are not visible properly. Else if you still have problems you can use the link to view it on Youtube directly. Thanks.

## Direct link to video tutorial on Youtube

How to calculate historical price to earnings ratios – Investing Made Easy series

## Notes

I have calculated average price for one financial year by using daily stock close prices. This means that I will have 10 data points for 10 years. You can get even richer analysis by doing rolling 4 quarters. Effectively I can get 4 data points for each year. This is usually done by research analysts in broking houses. I agree it makes for a prettier picture, but practically, an average price for the year is good for your analysis. You have to make best use of your time!

KRDALAL says

RE YOUR VIDEO ON HOW TO CALCULATE HISTORICAL P/E RATIOS :

HOW DOES ONE ACCOUNT FOR INFLATION IN EARNINGS; THIS IS CRUCIAL IN A COUNTRY LIKE OURS WITH A HIGHLY INFLATIONARY SCENARIO

Kunal Pawaskar says

I did not understand your question Kishore. Inflation in earnings? What do you mean exactly? Please can you explain that point?

KRDALAL says

The cyclically adjusted price-to-earnings ratio, commonly known as CAPE or Shiller P/E, is a valuation measure usually applied to broad equity markets. It is defined as price divided by the average of ten years of earnings, adjusted for inflation.

Value investors Benjamin Graham and David Dodd argued for smoothing a firm’s earnings over the past five to ten years in their classic text Security Analysis. Graham and Dodd noted one-year earnings were too volatile to offer a good idea of a firm’s true earning power. Decades later, Yale economist Robert Shiller popularized the 10-year version of Graham and Dodd’s P/E as a way to value the stock market.

Mebane Faber extended Shiller’s work to include over thirty foreign markets around the globe in his paper Global Value: Building Trading Models with the 10 Year CAPE.

EARNINGS NEED TO BE NORMALISED FOR THE EFFECT OF INFLATION OVER THE LAST TEN YEARS. CAN YOU PLEASE THROW SOME LIGHT ON THIS MATTER ?

Kunal Pawaskar says

Ok. If you are talking about the Shiller P/E.

This should explain it – http://www.nasdaq.com/article/how-to-apply-the-shiller-pe-to-individual-stocks-cm151619

The precise way to adjust for inflation is shown. This is different from what I have done. I have used a different pair, consisting of a numerator (price) and denominator (earning per share) respectively, for each year that I look at.

Shiller P/E takes one numerator, today’s price. The denominator has earnings from 10 years which are inflation adjusted using the method explained in the link above.

I hope this helps. If you have a question, let me know.

Kunal Pawaskar says

Hi Kishore, I am bringing the discussion back into the comment thread so that it benefits others. Your email had a question on the data that one should use for inflation in India.

You had also asked whether CPI or WPI (consumer price or wholesale price) to be used. Currently WPI is running around 5-6% and CPI is around 10% in India. THere is big difference between both.

On which one to use – I have not done the check between CPI and WPI and valuation cues from Shiller P/E method. If you use WPI consistently on all old earning data or CPI for that matter you would be applying one inflation measure for all the data. It should still show the up and down movement of the Price to earning (P/E). The P/E values might be different because the earning will be different respectively. In one case you will use WPI to arrive at inflation adjusted average earnings for last 10 years. In another case it will be CPI.

Nevertheless, the cyclical movement of P/E will get captured in both.

Still, between the two, I think WPI should be better because it captures inflation in prices at a wholesale level i.e. when a company sells it down into the market. The CPI is what we see as consumers. The difference is captured by traders. There is also the difference in the constituents of the respective indices.

I am not sure whether it is worth the hair-splitting because there will be enough strong points for taking either of the two. Just go ahead with one if you want to calculate it. Cyclical movements will be captured anyway.

Hope this helps.

You can get WPI data here.

http://mospi.nic.in/mospi_new/upload/manual_compilation_index.htm

In Download data, the new series from 2004-05 does not have older data (which you would need if you were going back 10 years). Try the 1994 data series.