There are many ways to value a stock. The best known is the price-to-earnings (PE) ratio, which divides a company’s price per share by its earnings per share.
On a PE basis, markets are near prior levels that have marked a short-term peak.
However, a company’s PE ratio can be influenced by accounting gimmicks, such as aggressive depreciation, one-time investments or divestments and a myriad of other ways that make up Generally Accepted Accounting Principles, or GAAP.
Another valuation metric is price-to-sales, which looks at the company’s price per share divided by sales per share.
Currently, half of the market index trades at over 10X sales:
Over half of the stocks in the S&P 500 are now trading at more than 10 times their sales. (Source: WisdomTree)
That’s troubling.
In 2002, after Sun Microsystems crashed 90%, CEO Scott McNealy famously said this about his own stock at 10X sales:
“At 10X revenues, to give you a 10-year payback, I have to pay you 100% of revenues for 10 straight years in dividends. Zero costs. Zero R&D. Zero taxes. Zero employees. What were you thinking?”
Right now, we have to wonder what the markets are thinking. For now, optimism is in the air ahead of Alphabet’s (GOOGL) earnings announcement after the bell today, which will provide some sense of how the AI hyperscalers are performing.
Once the Big Tech names start to show a year-over-year slowdown in earnings and revenues, particularly related to AI, it’s possible that investors will realize the silliness of paying 10X sales for a high-flying company.
Today’s Grey Swan Pro looks at one of the largest companies on the market today, yet sports a price-to-sales ratio of less than 1 — details here.
~ Addison
P.S. As a reminder, no Grey Swan Live! this Thursday. We’ll be back next week.
