QMary, I would be interested to learn your opinion on P/Es (price earnings ratios). At what level should one consider shifting one’s allocation of shares back into fixed income?
ALet’s start with what a P/E (or PER) is. For all those readers who tune out at the word “ratio”, this is not tricky stuff, I promise!
A P/E simply compares the price of a share with its annual earnings per share. Many people use it to decide whether a share is a good buy — is it cheap for what you’re getting?
Experts warn you should compare P/Es only of shares in the same industry. “Comparing the P/E ratios of a telecommunications company and an energy company, for example, may lead one to believe that one is clearly the superior investment, but this is not a reliable assumption,” says Investopedia.
Even then, take care. “A low P/E can indicate either that a company may currently be undervalued or that the company is doing exceptionally well relative to its past trends,” says Investopedia. Either way, it seems that a share with a low P/E is a good buy.
But wait. It also says, “In general, a high P/E suggests that investors are expecting higher earnings growth in the future compared to companies with a lower P/E.” In other words, if many investors are willing to pay a higher price for a share, they must think its prospects are better than a share with a low P/E.
Confused? Let’s go to another source — Wikipedia. “The PER of a listed company’s share is the result of the collective perception of the market as to how risky the company is and what its earnings growth prospects are in relation to that of other companies.”
It continues, “Investors use the PER to compare their own perception of the risk and growth of a company against the market’s collective perception of the risk and growth as reflected in the current PER. If investors believe that their perception is superior to that of the market, they can make the decision to buy or sell accordingly.”
Note that last sentence. Do you think you know more about a company than most people?
If you do because an employee of the company has told you stuff the world doesn’t know, and you trade on that info, that’s illegal insider trading, which could get you in big trouble.
If you’re just assessing a company from public information, can you beat the full-time experts, who analyse shares all day every day?
What I’m driving at is that I’m not convinced that, for an amateur investor, analysing P/Es will help you do better than the market as a whole.
So, on to your question at last, about how P/Es could help you decide when to sell shares and move into bonds or similar.
You’re trying to time the market. While you might sometimes get it right, the vast majority of people don’t get it right often enough to justify trying. The average returns of market timers are pretty much always below the average for those who just buy and hold.
QI’m a confused old man. Regarding the price of shares, value used to be judged by the price earnings ratio, or P/E.
An acceptable ratio that showed value was 15. Anything below 15 was good and above not so good. This traditional way seems to have gone, and now the rationale is just hoping or expecting that someone will pay more than you paid.
Examples of P/Es now are AMP 188, Chorus 71, Auckland Airport 46 and Meridian Energy 101.
What happened to the 15, and will earnings ever mean anything again, and how might this happen?
ASorry, but I don’t know the answers — except to say that earnings must be meaningful, regardless of any ratios. A company that is earning well must be a better investment than one that is not.
Back when I studied for a masters in business administration in finance, I learned about P/Es and other ways that people select shares. But I’ve never used that knowledge. And yet I’ve invested in shares since the 1970s and done pretty well.
As I said above, I don’t think amateurs can successfully pick shares. So I simply use widely diversified share funds, and hold them for the long term, through all the market ups and downs.
What’s more, I’m not convinced that even the professionals are all that good at selecting which shares to buy and sell. That’s why I use low-cost index funds and ETFs (exchange traded funds), whose managers don’t pick shares but simply hold all the shares in a market index.
To get back to your letter, some of those P/Es do look high — which is not surprising given how well our share market has performed in recent years. As I’ve been saying lately, I wouldn’t like to count on that rapid pace of growth continuing. But who knows?
If you’re confused, perhaps try investing the way I do — but only with money you don’t plan to spend for ten years or so. One great advantage: it’s easy. You park your money and get on with the important things in life.
QThe graph of growth in share investments last week was very spectacular.
However, in comparison with real estate — in the mid 1960s, I bought a section for our first home. This section cost 750 pounds ($1,500), and as a 800-square-metre block in Glenfield it would today be worth well in excess of $500,000.
AFunnily enough, the long-term returns on New Zealand shares and on your land are pretty similar.
Let’s say you bought the land in 1965, and it is now worth $550,000. Online calculators show the return is about 10.7 per cent a year.
On New Zealand shares, as shown in last week’s graph, $1,000 in January 1970 has grown to a bit more than $170,700 — including dividends and after tax. That’s an annual return of about 10.2 per cent.
International shares have grown to $104,700 — a return of about 9.2 per cent.
At first glance, the closeness of the returns doesn’t look right. But:
- Your starting number is one and a half times as big. If we used $1,500 in the share graph, we would end up with $256,100 in NZ shares, and $157,050 in world shares.
- Your property has five more years of growth, and that matters.
- While 10.7 and 10.2 per cent are close, over a long period even that small difference in returns makes a big difference to the results.
Conclusion: shares and property have both been really good investments over decades — and will probably continue to be over long periods.
P.S. Land values have risen more in Auckland than in most other places. The countrywide average would be lower.
QA fascinating delusional perspective from a residential landlord in your column two weeks ago.
We have had to rent numerous homes since 2011, and what a nightmare it’s been.
- House 1 — tenancy period 3 years 1 month. The property was administered by a government agency, managed by a well known Auckland real estate company.
The rental agency advised us at the start that the contract would be on a “as is where is” basis. Unfortunately being the first home we had rented in NZ we naively went ahead, and as it turned out the home was wrought with major deferred maintenance issues.
However, the agency said the “as is where is” clause negated their obligation to undertake repairs, although they did attend to some of the more serious health and safety issues.
After having put up with the ongoing problems we received notice of a rent increase. We objected and wrote a letter giving our reasons. Within a few weeks we received a notice to vacate, no specified reason other than the owner was possibly wanting to renovate.
To our amazement, a week before we were required to move out, the home appeared on Trademe as available for rent. We did take our case to the Tenancy Tribunal, only to lose on all of our claims against the landlord.
- House 2, for two years and six months. We were advised by the owner they wanted the house back to live in.
- House 3, for three years and two months. We were advised by the rental agency the owner wanted the house back as their family would be moving in. We have since been to the house to pick up mail and the occupants are from a completely different race and country than the owners — ????
Needless to say moving constantly from home to home is expensive, stressful, and unsettling, with each home needing a thorough clean. The gypsy life of a residential tenant is an ongoing journey from hell, and uncertainty.
The final insult in this miserable saga was brought home recently with regard to the attitude of a well known real estate company towards tenants. I spotted a poster in the window of one of their offices that read, “You own the property — We’ll own the hassles.”
AA miserable saga indeed. It seems that the rules about landlords ending tenancies are bent fairly often.
As I’ve said, long-term leases — along with some common decency — might help make the tenants’ lot easier, especially now that more and more people are stuck renting because first homes are ridiculously expensive.
QYou asked for personal experience of landlords from a tenant’s point of view.
We have had seven landlords in NZ over the years before 1986, with one to five years leases. Our experience may have been coloured by our general practice of advertising for landlords, rather than responding to adverts as a prospective tenant, but there is one exception.
In that case, we took over a university lecturer’s furnished home in Ellerslie for a year, while he went away on sabbatical. First thing we had to do was to clean up the remains of the family breakfast, and do the washing up, followed by changing the bed linen and washing it, so that we had somewhere clean to sleep for the night.
After that it all went well, and the agent refunded the bond promptly, and gave us a good reference, so that was good.
All the others (bar one) were blemish-free, especially the five-year lease in Tauranga, when the landlord lived nearby.
The exception (a two-year lease) was upset that we would not move out when he wanted to sell the property, so made life a bit difficult about the clean-up at the end of the lease, otherwise was just fine.
Overall verdict, no problem with landlords for good tenants, although this may have been affected by the fact that we sought the landlords rather than them seeking us.
ALovely to get a more positive story, although your experience was a long time ago.
It’s interesting, too, that you were in a position to advertise that you wanted a place to rent. That probably implies to landlords that you are good prospects. But I doubt if such advertising would happen much in these days of too many tenants and too few properties.
As for the lecturer, we all know that when you’re rushing to go away things can be a bit shambolic. But leaving you with the breakfast dishes is pretty cheeky.
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Mary Holm, ONZM, is a freelance journalist, a seminar presenter and a bestselling author on personal finance. She is a director of Financial Services Complaints Ltd (FSCL) and a former director of the Financial Markets Authority. Her opinions are personal, and do not reflect the position of any organisation in which she holds office. Mary’s advice is of a general nature, and she is not responsible for any loss that any reader may suffer from following it. Send questions to [email protected] or click here. Letters should not exceed 200 words. We won’t publish your name. Please provide a (preferably daytime) phone number. Unfortunately, Mary cannot answer all questions, correspond directly with readers, or give financial advice.