Price-To-Economic Book Value Ratio Rises Again In 1Q23

The trailing-twelve-months (TTM) PEBV ratio for the S&P 500 rose from 1.7 as of 3/31/23 to 1.8 as of 5/15/23.

This report is an, abridged version of S&P 500 & Sectors: Price-to-Economic Book Value Ratio Rises Again in 1Q23, one of my quarterly series on fundamental market and sector trends.

The report analyzes the trailing price-to-economic book value (PEBV) ratio for the S&P 500 and its sectors. I calculate these metrics based on S&P Global’s (SPGI) methodology, which sums the individual S&P 500 constituent values for market cap and economic book value before using them to calculate the metrics. I call this the “Aggregate” methodology. Analysis in this report is based on the latest audited financial data available, or 1Q23 10-Qs in most cases. Price data for the current period is as of 5/15/23.

S&P 500 Trailing PEBV Rises From Last Quarter

The trailing PEBV ratio compares the S&P 500’s expected future profits (as reflected in its price) to its economic book value as of 5/15/23. The S&P 500’s PEBV ratio of 1.8 implies the profits (NOPAT) of its constituents will permanently increase 80% from the TTM ended 1Q23 levels.

Key Details on Select S&P 500 Sectors

Only one S&P 500 sector, Energy, trades below its economic book value. Figure 2 shows the Energy sector has the lowest trailing PEBV ratio among all eleven S&P 500 sectors based on prices as of 5/15/23 and data from 1Q23 10-Qs.

A trailing PEBV ratio of 0.6 means the market expects the Energy sector’s profits to decline 40% from TTM ended 1Q23 levels. On the flip side, investors expect the Real Estate and Utilities sectors (trailing PEBV ratios of 7.5 and 5.4) to improve profits more than any other S&P 500 sectors.

Below, I highlight the Healthcare sector.

Sample Sector Analysis: Healthcare: Trailing PEBV Ratio = 1.4

Figure 1 shows the trailing PEBV ratio for the Healthcare sector rose from 1.3 as of 3/31/23 to 1.4 as of 5/15/23. The Healthcare sector market cap rose from $4.9 trillion as of 3/31/23 to $5.0 trillion as of 5/15/23, while its economic book value fell from $3.9 trillion as of 3/31/23 to $3.6 trillion as of 5/15/23.

Figure 1: Healthcare Trailing PEBV Ratio: December 2004 – 5/15/23

The May 15, 2023 measurement period uses price data as of that date and incorporates the financial data from 1Q23 10-Qs, as this is the earliest date for which all the calendar 1Q23 10-Qs for the S&P 500 constituents were available.

Figure 2 compares the trends for market cap and economic book value for the Healthcare sector since 2004. I sum the individual S&P 500/sector constituent values for market cap and economic book value. I call this approach the “Aggregate” methodology, and it matches S&P Global’s (SPGI) methodology for these calculations.

Figure 2: Healthcare Market Cap & Economic Book Value: December 2004 – 5/15/23

The May 15, 2023 measurement period uses price data as of that date and incorporates the financial data from 1Q23 10-Qs, as this is the earliest date for which all the calendar 1Q23 10-Qs for the S&P 500 constituents were available.

The Aggregate methodology provides a straightforward look at the entire S&P 500/sector, regardless of firm size or index weighting, and matches how S&P Global (SPGI) calculates metrics for the S&P 500.

For additional perspective, I compare the Aggregate method for trailing PEBV ratio with two other market-weighted methodologies: market-weighted metrics and market-weighted drivers. Each method has its pros and cons, which are detailed in the Appendix.

Figure 3 compares these three methods for calculating the Healthcare sector trailing PEBV ratio.

Figure 3: Healthcare Trailing PEBV Ratio Methodologies Compared: December 2004 – 5/15/23

The May 15, 2023 measurement period uses price data as of that date and incorporates the financial data from 1Q23 10-Qs, as this is the earliest date for which all the calendar 1Q23 10-Qs for the S&P 500 constituents were available.

Disclosure: David Trainer, Kyle Guske II, and Italo Mendonça receive no compensation to write about any specific stock, style, or theme.

Appendix: Analyzing Trailing PEBV Ratio with Different Weighting Methodologies

I derive the metrics above by summing the individual S&P 500/sector constituent values for market cap and economic book value to calculate trailing PEBV ratio. I call this approach the “Aggregate” methodology.

The Aggregate methodology provides a straightforward look at the entire S&P 500/sector, regardless of firm size or index weighting, and matches how S&P Global (SPGI) calculates metrics for the S&P 500.

For additional perspective, I compare the Aggregate method for trailing PEBV ratio with two other market-weighted methodologies. These market-weighted methodologies add more value for ratios that do not include market values, e.g. ROIC and its drivers, but I include them here, nonetheless, for comparison:

Market-weighted metrics – calculated by market-cap-weighting the trailing PEBV ratio for the individual companies relative to their sector or the overall S&P 500 in each period. Details:

1. Company weight equals the company’s market cap divided by the market cap of the S&P 500 or its sector
2. I multiply each company’s trailing PEBV ratio by its weight
3. S&P 500/Sector trailing PEBV equals the sum of the weighted trailing PEBV ratios for all the companies in the S&P 500/sector

Market-weighted drivers – calculated by market-cap-weighting the market cap and economic book value for the individual companies in each sector in each period. Details:

1. Company weight equals the company’s market cap divided by the market cap of the S&P 500 or its sector
2. I multiply each company’s market cap and economic book value by its weight
3. I sum the weighted market cap and weighted economic book value for each company in the S&P 500/each sector to determine the S&P 500 or sector’s weighted FCF and weighted enterprise value
4. S&P 500/Sector trailing PEBV ratio equals weighted S&P 500/sector market cap divided by weighted S&P 500/sector economic book value

Each methodology has its pros and cons, as outlined below:

Aggregate method

Pros:

• A straightforward look at the entire S&P 500/sector, regardless of company size or weighting.
• Matches how S&P Global calculates metrics for the S&P 500.

Cons:

• Vulnerable to impact of companies entering/exiting the group of companies, which could unduly affect aggregate values. Also susceptible to outliers in any one period.

Market-weighted metrics method

Pros:

• Accounts for a firm’s market cap relative to the S&P 500/sector and weights its metrics accordingly.

Cons:

• Vulnerable to outlier results from a single company disproportionately impacting the overall trailing PEBV ratio.

Market-weighted drivers method

Pros:

• Accounts for a firm’s market cap relative to the S&P 500/sector and weights its size and economic book value accordingly.
• Mitigates the disproportionate impact of outlier results from one company on the overall results.

Cons:

• More susceptible to large swings in market cap or economic book value (which can be impacted by changes in WACC) period over period, particularly from firms with a large weighting in the S&P 500/Sector.