Sam Ro: Put The P/E Ratio In Timeout For Now

The forward price-earnings (P/E) multiple has limited value during normal times.

And the metric arguably has even less value during periods of elevated uncertainty.

That’s because the E is based on analysts’ estimates for the near future. And when the outlook for business is increasingly uncertain and rapidly changing, it can take time for many analysts to adjust that E.

This is especially the case right now as many companies have not yet factored the impact of tariffs into their guidance, which analysts lean on when they establish their earnings forecasts.

“We’ve been reading earnings call and conference transcripts closely since November across market capitalizations, sectors, and industries and feel fairly confident in saying that U.S. public companies have been very reluctant to discuss tariff impacts (outside of China) until specific details have been provided by the administration, and even then, many still have not given sell-side analysts a lot of specifics to start factoring into their models,” RBC’s Lori Calvasina wrote earlier this month.

Assuming tariffs are negative for earnings — which is what everyone assumes — this means the E is being distorted higher by stale estimates.

Forward earnings estimate haven’t really moved amid the market sell-off. (Source: FactSet)

With stock prices falling the way that they have been in recent weeks, the P/E ratio could be creating the illusion that stocks have gotten cheaper than they are in reality.

Forward P/E ratios have come down. But is the E accurate? (Source: FactSet)

Generally speaking, it’s not a great idea to be trading in and out of the stock market, especially during periods of stress. It’s especially treacherous to be trading based on P/E ratios, more so when the Es are unreliable.

Unfortunately, we might not get a clean E any time soon.

“There is a reasonable probability that absent some resolution/clarity, transparency could be compromised,” BofA’s Savita Subramanian wrote on Thursday. “Companies tend to shut down guidance amid uncertainty.”

This sentiment is in line with Goldman Sachs’ David Kostin, who expects “during upcoming quarterly earnings calls fewer companies than usual will provide forward guidance.” This is because recently announced tariffs have made it very difficult to project where business is headed.

If you’re going to trade, be careful about trading based on expectations for the near future. The savviest minds in the market caution this is a guessing game.