The stock markets are still in correction mode. The Swiss market index (SMI) has lost almost 15 percent since the beginning of the year, which has pushed the valuation measured by the price-earnings ratio (P / E) to a value of 15. This is a level last seen in 2011. But does that make the SMI shares a good buy?
Analysts often consider price-to-book ratios (P / B) to be more meaningful than P / E ratios. The P / B for SMI is 2.9, which is in line with the end-2020 level and above the long-term average. The shares in the leading Swiss index have therefore not become as much cheaper as can be seen by looking at the P / E ratio alone.
The ratio is calculated by dividing the share price by the book value per. The book value corresponds to the equity, which corresponds to all intangible, tangible and financial assets in a company. Dividing the value by the number of titles available on the market gives the book value per. shares.
The market expects Credit Suisse’s equity to fall
If a price-to-book ratio of less than one is calculated for a share, it effectively means that the company could be bought for less money than it is worth according to the balance sheet. This is basically a clear sign of a cheap purchase. In the table below, which ranks SMI stocks by increasing P / E, Credit Suisse would be by far the most interesting stock with 0.3 – a good buy.
With a return on equity of just under 4 percent, the valuation discount for the troubled big bank is justified. The share will continue to be kept low by a trend of declining earnings combined with rising costs and risks associated with pending litigation. The great focus on investment banks is a disadvantage in a recessionary environment. Credit Suisse is a good example of when the market expects losses to further reduce equity in the future.
The UBS shares, which are also traded on the market with a price-to-book ratio of 0.9 with a valuation discount, provide a different starting point. The return on equity is just over 13 percent. Although the stock is outperforming the overall market with a price loss of 7 percent in 2022, analysts surveyed by Bloomberg see an additional upside potential of 36 percent. However, due to lower income from trading activities and the economic headwinds of investment banking, it will probably be a long time before this capital gain becomes a fact.
Holcim for an appraisal discount
The good results of the cement group Holcim could also be interesting for investors when they have to make a purchase decision. With a book-to-book value of 0.9, the share is also undervalued in relation to the reported equity. The low P / E ratio of 11 also supports this view.
The Group has also previously proven that it is able to reduce costs and improve margins even in a difficult economic environment. On the other hand, energy costs for cement production have risen, which should weigh on profits.
|title||Price development since the beginning of the year||Price to book ratio (P / B)||price-earnings ratio (P / E)|
|Swiss Re||-20 percent||0.9||15|
|swiss life||-15 percent||0.9||12|
|Zurich insurance||+3 percent||1.7||12|
|Partner group||-43 percent||7.8||15|
While Swiss Re and Swiss Life, high-yield insurance stocks, have a PBV below 1, Zurich Insurance is considered “expensive” in comparison. However, the value of 1.7 for Zurich Insurance does not automatically mean that the stock is overvalued and that a price correction is imminent. For a P / B of more than 1 can also mean that the market has a positive assessment of the company’s financial future. The dynamic growth in property and non-life insurance is likely to continue in the second quarter, supported by price increases.
There are other pitfalls when using the key figure: There are many different accounting and valuation methods, and KBV usually says a little to companies with high intangible assets such as a strong brand or large innovation force. For this reason, the P / B for technology companies is generally much higher than for classic industrial companies. KBV, like P / E, is therefore industry-dependent.
As a technology stock, Logitech is not overvalued per se with a P / E of 3.7. The shares are back to where they were in valuation in 2016, down 33 percent this year. While a recession could hurt sales for a while, strong profitability and a debt-free balance are good arguments in favor of Logitech. On the other hand, prudence is warranted for the cyclical industrial stocks Geberit and Sika with a price-to-book ratio of 9.1 and 7.2.
Real estate can also be included in the book value in various ways. In addition, hidden reserves or fees are not taken into account in the ratio between price and book value. Therefore, KBV loses meaning, especially in the case of investment companies. For Partners Group shares, the P / E ratio is therefore more relevant for the valuation.
Far behind is the most expensive stock in SMI with a price-to-book ratio of 14.9 SGS. Despite the strong earning capacity, the secure yield and the historically proven robustness in financially difficult times, the goods test and inspection group is susceptible to further corrections. The fact that SGS falls out of the leading Swiss index in mid-September is likely to intensify the downward pressure.
Despite all the limitations, KBV is well suited as an alternative to the P / E ratio to identify cheap stocks or overpriced stocks. Roche is traded on the stock exchange with more than ten times the equity and is therefore more than three times as expensive as Novartis. This valuation advantage is also reflected in the P / E comparison, where Roche performs significantly worse with a value of 20.
At Roche, 2022 will be a year of transition, and several pipeline failures are currently weighing on inventories. Novartis, on the other hand, is benefiting from the strategic steps taken in the last six months. These include the review of Sandoz, the sale of the Roche stake and the launched billion-dollar savings program. This different starting position is also reflected in the different price development: the participant certificates have so far lost 12 percent this year, while the Novartis shares have shown a small price increase.