Expected EPS × Trailing P/E

Itzhak Ben-David and Alex Chinco

No 32942, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: All of asset-pricing theory currently stems from one key assumption: price equals expected discounted payoff. And much of what we think we know about discount rates comes from studying a particular kind of expected payoff: the earnings forecasts in analyst reports. Researchers typically access these numbers through an easy-to-use database and never read the underlying documents. This is unfortunate because the text of each report contains an explicit description of how the analyst priced their own earnings forecast. We study a sample of 513 reports and find that most analysts use a trailing P/E (price-to-earnings) ratio not a discount rate. Instead of computing the present value of a company’s future earnings, they ask: “How would a firm with similar earnings have been priced last year?” Even if other investors do things differently, it does not make sense to put discount rates at the center of every asset-pricing model if market participants do not always use one. There are other options. Trailing twelve-month P/E ratios account for 91% of the variation in analysts’ price targets.We construct a new kind of asset-pricing model around this fact and show that it explains the market response to earnings surprises.

JEL-codes: G12 G14 G32 (search for similar items in EconPapers)
Date: 2024-09
New Economics Papers: this item is included in nep-fmk and nep-ipr
Note: AP CF
References: Add references at CitEc
Citations:

Downloads: (external link)
http://www.nber.org/papers/w32942.pdf (application/pdf)
Access to the full text is generally limited to series subscribers, however if the top level domain of the client browser is in a developing country or transition economy free access is provided. More information about subscriptions and free access is available at http://www.nber.org/wwphelp.html. Free access is also available to older working papers.

Related works:
Working Paper: Expected EPS x Trailing P/E (2024)
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:nbr:nberwo:32942

Ordering information: This working paper can be ordered from
http://www.nber.org/papers/w32942
The price is Paper copy available by mail.

Access Statistics for this paper

More papers in NBER Working Papers from National Bureau of Economic Research, Inc National Bureau of Economic Research, 1050 Massachusetts Avenue Cambridge, MA 02138, U.S.A.. Contact information at EDIRC.
Bibliographic data for series maintained by ().