I wrote about this back in February when the market was putting in its lows and everyone was wondering what their stock's price target was or how low it was going to go.
Today, after a pretty big run up, people are still wondering what their stock's price target is, but now they're wondering how high it's going to go.
Either way, it's important for everyone to know how to calculate their stock's price target.
You can do this by using either technicals or fundamentals.
Today, I'm going to focus on fundamentals.
And we're going to use the P/E ratio to calculate it.
Many people use P/E ratios to determine a company's perceived undervaluation or overvaluation.
But you can also use the P/E ratio to determine a stock's upside and downside price targets as well.
The two most common P/E ratios used are the:
- P/Es using the Trailing 12 months (or 4 quarters) of earnings
- P/Es using the F1 (or Current Fiscal Year) Estimates
The calculation for the P/E ratio is simply price divided by earnings.
For example: if a stock's price is $30 and its earnings are $1.25, the P/E would be 24.
If that stock's earnings rose to $2.00, the P/E would now be lower at 15.
($30 price / $2.00 earnings = 15 P/E)
And the most logical conclusion would be to see the stock's price rise until its most recent multiple (or P/E ratio) of 24 was hit again.
Why is this so 'logical'? Because if people had just been willing to pay 24 times earnings, they probably will again if they believe the company's earnings will continue to improve.
And in an environment where P/Es are increasing, they might be willing to pay even more.
You'll also find that most of the time, a stock's P/E ratio using EPS actuals is higher than its P/E ratio using its forward estimates.
That's because of the uncertainty regarding the projected earnings vs. the certainty of actual earnings.
As the company continues to report (and meets its projections), the forward P/E ratio typically increases, which means the stock price increases as the earnings projections are coming to fruition.
And as more optimism grows over future earnings growth, you may see the P/E ratio grow even more, getting even higher than its previous multiple.
So, the calculation to figure out your stock's price target is below:
Price x ((current P/E) / (forward P/E)) = future price (or price target)
In other words, let's say a stock's price was $50 and its current P/E was 20. Let's also say its forward P/E was 15.
That's: $50 * (20 / 15) = $66.50 price target.
Another way of saying this is: 15 goes into 20, 1.33 times. So $50 times 1.33 equals your price target of $66.50.
The screen I'm running today, finds stocks with their P/Es under their average P/E over the last 5 years and that also have price targets of at least 20% or more above their current price.
The Parameters are:
- P/E less than Average P/E over the Last 5 Years
(I want the stock's P/E to be less that the Average P/E over the Last 5 Years.)
- Price Target >= 1.2* the current price
(Looking for stocks whose price targets are at least 20% above their current price.)
- Zacks Rank <= 3
(No Sells or Strong Sells allowed.)
Here are 5 stocks that came thru this week's screen:
AIRM Air Methods Corp.
CNX Consol Energy, Inc.
CWCO Consolidated Water Co., Ltd.
NEM Newmont Mining Corp.
NOVN Noven Pharmaceuticals, Inc.
All are trading at least 20% below their projected price targets.
Disclosure: Officers, directors and/or employees of Zacks Investment Research may own or have sold short securities and/or hold long and/or short positions in options that are mentioned in this material. An affiliated investment advisory firm may own or have sold short securities and/or hold long and/or short positions in options that are mentioned in this material.
