It's cheap, but could it get cheaper?

8th March 2012 by Darius McDermott

Fund managers use a measure called price-to-earnings ratio (P/E), to value both markets and companies. A higher P/E ratio means that investors are paying more for each unit of net income so the stock or market is more expensive when compared with a lower P/E ratio.

Recently, the UK stock market has been on a P/E ratio of just over 10 which is on the cheap side compared with history. So is now the time to buy? Data from Neptune Asset Management would certainly suggest so. The company has mapped the year in which someone invests with the returns they receive over the next 10 years, and the data reveals that the best years to invest were when the UK stock market was on a P/E ratio of between eight and 12. However, the worst years to invest where when the P/E ratio was between 17 and 25.

The UK isn’t immune to the continuing issues in the Eurozone though. Indeed, Moody’s have said that our AAA rating is under threat due to those very problems. And should there be a disorganised break-up of the Euro or defaults from Greece and beyond, the UK stockmarket could be hit severely. If this is the case then cheap could get cheaper and anyone investing now could have a long time to wait for their investment to recover.

Is that likely though? You would hope not, but the politicians need to get on top of the problem quickly and decisively. Companies are in pretty good health, so if the problems are resolved satisfactorily we could see a decent rebound in the market. Personally, I think there is just too much uncertainty to be sure that we won’t see another significant fall in the next 12-24 months though.

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