Financial Club, Blog, and Education
Hello everyone,
The meeting on Wednesday, November 12, will be optional for general members. This one will not be counted, and you can attend if you would like. The officers will be there, and depending on who shows up, we will follow different plans.
– Michael Trehan
Level: Beginner
Michael: Welcome to our third issue of the education blog! Notice that there is a line above that tells you the level of the education blog. Beginner means that it is intended for everyone, and usually the topics stay in line with our meetings. Intermediate is for officers and anyone else who is ahead in the meetings, while Advanced is for me to introduce or discuss topics that are currently out of the scope of the club. Our topic this time around is the P/E ratio. Ken will explain to you in simple language what the P/E ratio tells you, how it is calculated, and how it is used.
Ken: The Price-to-Earnings (P/E) ratio is a powerful tool that we can use to determine, on a basic level, how other investors feel about a certain company. To be more specific, it is a fundamental analysis ratio that measures how much money investors are willing to pay for one dollar of earnings. Low P/E ratios suggest that other investors are not as confident in a company as they should be and have therefore oversold the stock. On the other hand, high P/E ratios suggest that investors are overconfident in a company and have therefore overbought the stock. However, a single company’s P/E ratio by itself is useless. In order to gain insight on a company, we must compare its P/E ratio to that of other companies operating in the same sector (type of product or service). The P/E ratio is calculated as follows:
P/E ratio = Share Price divided by Earnings Per Share (EPS)
EPS = Net Income divided by Number of Shares
Translating that financial jargon into English:
For example, XYZ had a net income of $200 million last year. XYZ has 100 million shares of stock, each priced at $50. The EPS for XYZ Inc. would be $200 million / 100 million = $2. Since the price is $50 and the EPS is $2, the P/E ratio would be 25. Let’s compare them to ABC, who operates in the same sector. ABC, with 50 million shares, made $150 million last year. Its EPS would therefore be $150 million / $50 million = $3. Each share is currently trading at $45, giving ABC a P/E ratio of $45 / $3 = 15. The P/E ratios of XYZ and ABC show that investors are willing to pay more for XYZ’s earnings than ABC’s earnings. Investors could also be valuing XYZ more than they should, causing XYZ’s stock to fall when the market corrects itself.
Therefore, P/E can be a powerful tool determining when a stock is overvalued or undervalued. However, just because a company’s P/E ratio is relatively low or high does not mean it is undervalued or overvalued. A company could be reporting outstanding earnings, but if it is taking on massive amounts of debt to get there, investors will not be as excited. This lack of confidence will drop the price, thus lowering the P/E ratio. When making trading decisions, use the P/E ratio in accordance with other fundamental ratios for the best result.
– Ken Croker
Michael: Here is our second issue of the Market Blog! Please email me with any comments or corrections.
Indices:
For our members:
Right now, our club is tracking the technology, healthcare, and financial sectors for the most part.
Look at almost any technology stock and you will see a parabolic run upwards that hugs the upper Bollingers (other than FB and GOOGL – more on that later). This is great, especially if you had a long position, but what do you do now? You could wait for a small pullback and buy on the pullback, or you could just buy into the strength and ride out any retracements. Facebook, however, has not been performing on par with the market. This is probably because of its recent earnings, in which management said they expected more costs later on. No fundamental shift has occurred, so I am bullish on the stock. Since Facebook’s implied volatility is low, I will be carefully looking at prices and risk/reward ratios for near-the-money naked calls on it.
Aabhash, great job on predicting which way Alibaba’s earnings would turn out. In future meetings, we’ll be looking at many strategies with which we can play earnings. Although Facebook did not rise much over the past week as you said it would, I remain bullish on it for the longer term. The medical sector also has not seen the large gains you had predicted, but that was just a guess on your part. We’ll also talk about sentimental analysis in later meetings.
For next week, I am expecting a small pullback, and a continuation of the trend higher. Also, email me where you think the S&P is going to close next Friday with an explanation. If you are right within a small margin, there might be a small award.
Remember that the stock market is open the entire week, but the bond market is closed Tuesday because of Veteran’s day. Have fun.
– Michael Trehan
President: This is our first issue of the MARKET BLOG! Take a look at the Indices section below, certain stocks that our members are interested, our Secretary’s opinion, and the President’s comments. Please email any errors, especially numerical, to the President and Secretary. Enjoy!
Our secretary brings you the following information:
Indices: This week was an amazing week for the bulls! Stocks were up all across the board as the Dow was up almost 600 points. It finished the week at 17,390.52. The S&P 500 was up 56 points to 2,018.05. The NASDAQ composite ended at 4,630.74 after a 100 point surge on Thursday.
For our members: Amazon bounced back after a 10% dip last week to end at 305.46! Facebook dropped to 74.99 this week. The Cure Direxion Index, which is a leveraged biotech ETF, was incredibly bullish as it leaped from 107 on Monday to finish at 118.78 on Friday. Tesla dropped 14 points to start off the week but it soared from 220.68 to 242.77 on Tuesday. Tesla finished at 241.70, up from 234.50 on Monday. Finally, Alibaba started the week of very strong as it topped 100 before dropping to 97 after-hours on Tuesday. It finished at 98.60 to end the week. Lots of earnings!
CURE skyrocketed this week as the Ebola scare continues to rage through our country by the day. It has been up 33 points since mid-October! It should be noted that this is about the time the public began to worry about Ebola, leading to the price markup. Facebook shares fell this week because they were a “beat and lower” because of higher cost expectations next year. Alibaba started the week bullish as ever, with many believing it to top expectations for its upcoming Q3 report. But, the optimism died down rapidly after hours on Tuesday as the stock fell 3 points within hours. Amazon managed to slowly but surely climb back over 300 after dipping 10% last week. This is mainly due to rebounding confidence and overall optimism surrounding Amazon.
Secretary: I think that Alibaba will fulfill its potential for Q3 and I believe that its shares will jump well over 100 points. I recommend buying Facebook right now as it is lower than what it normally is; I almost guarantee Facebook will jump over $80 per share in the next 10 days. I also recommend buying Apple as it is experiencing its annual “holiday-season” surge, along with Google and Amazon. Finally, the Cure Direxion Index will continue to increase incredibly, until the Ebola hype dies down, so I predict that it will close well over 130 by the end of this coming week
President’s Comments: First, let’s talk in terms of dollars and percentages, as points are usually reserved for indices. I am not sure how your Alibaba earnings play will turn out, but good luck. Might want to play it with options. Also, remember that just because you realize that a stock (Facebook) is undervalued doesn’t mean that others will realize it and the stock may continue to drop. I completely agree with you that this is a great entry opportunity for Facebook, but I would change your time frame from a swing trade (10 trading days) to a long term entry. As for Apple, also recall that such holiday revenue increases are already factored into the share price, as the market looks around six months ahead. Take a look at stockcharts.com and the performance of Apple over the past decade during different months. CURE is a 50/50 shot, as Ebola may or may not be contained. Right now, the markets think that it is not a big deal; just look at the amazing rebound we had. And don’t forget why the market was up a lot this week: Japan began its QE program right as we ended ours.
Secretary: Thanks a lot Michael, and Happy Trading Everyone!!!
-Aabhash Gautam
First of all, what is a chart? A chart of a stock graphs a stock’s price on the y-axis, and time on the x-axis. You probably are familiar with simple line charts, but candlestick charts provide more information and are more commonly used.
Look at the diagram of the chart below. The box, or “candle” is the body of the candle. Each candle represents a certain amount of time, usually a day. The wicks of the candle are technically referred to as the “wicks,” but they are referred to by their purpose (high or low) in common language. The ends of the body are formed by the opening and closing prices of the security during this time period. If the body is filled with a color like white, green, or a light color, then the security was up in that period of time, and the bottom of the body is the opening price and the top is the closing price. On the other hand, if the body is filled with a color like black, red, or some other dark color, then the security was down in that period of time, and the top of the body is the opening price and the bottom is the closing price.
The wick shows the extremes of price action during the time period. The upper wick is the line extending from the top of the body to the highest price ever reached (during the specified time period), and the lower wick is the line extending from the bottom of the body to the to the lowest price ever reached. Sometimes, one or both of the wicks are not seen because the opening or closing price is also the highest or lowest price.
Here is some more terminology: Let’s say that we have a chart where each candle represents a day, and there are enough candles to show the past year. That would be called a one-year daily chart. If each candle represented an hour, and there are candles going back 180 days, then it would be a 180 day hourly chart.
Also, be careful not to confuse candlesticks with OHLC (open-high-low-close) charts. Candlesticks have a rectangular body, while OHLC charts are lines with tick marks on the vertical line. The candlestick has many advantages over the traditional line chart. When we get into more analysis, we will see that candles can show buying and selling pressure throughout the day and provide earlier indications of market reversals. As a result, many traders use them and some even base strategies off of them. However, candlesticks do not always tell the sequence in which events happened (e.g. whether the high or low came first). Many websites, like FINVIZ and TradingView, use candlestick charts by default.
– Michael Trehan