According to a recent article published by the Australian Financial Review, research by investment bank Goldman Sachs shows that:
"The top 100 industrial stocks now trade on a fresh, record-high price-earnings ratio of 19.2 times earnings. That's 21% higher than its average during the past 20 years."
Some investors will rightly be nervous by this research as it could suggest the market is entering an area of significant overvaluation. More worryingly, this scenario could be the precursor to a nasty share market correction…
Then again, there is the possibility that the market has accurately priced in above average growth ahead.
What to do
With earnings multiples well above their long-run average, investors need to be careful about using relative price-to-earnings (PE) valuation techniques.
Arguably it could be better to limit paying a PE multiple closer to the long run average of 15 times for the average stock despite the market multiple suggesting a multiple closer to 19 times is applicable.
Luckily there are still a number of stocks which look attractive based on their long run average PE multiples.
Interestingly, many of these hail from the banking and financial services sectors. Of course banks have in general traded at discounts to the wider market due to their leveraged balance sheets, which carry a heightened level of risk compared with a general industrial stock.
Based on analyst consensus estimates provided by CommSec, Macquarie Group Ltd (ASX: MQG) and Westpac Banking Corp (ASX: WBC) are trading on forward PE multiples of 11.5x and 12.7x respectively.
Platinum Asset Management Limited (ASX: PTM) is trading on forward PE multiples of 15.7x.
Stepping away from the financial sectors and towards general industrials and Telstra Corporation Ltd (ASX: TLS) is trading on a forecast PE of 15.7x. That's still a slightly elevated level, but it's at least closer to the long-run market average.
