An important decision when investing is deciding how much to pay for your share. What’s your process? I have to admit that amongst the great companies with stable businesses, the stock tends to go up over time so if your price target is too low, you may never get in … A price target should be for a specific time frame in my opinion. I personally think that the time frame should be within a quarter since every earnings can impact the price target.
When I first put my dividend investing strategy in place, we had just come off the financial market crash so bargains were everywhere. I wasn’t really working hard on picking the purchase price … It’s much harder to find bargains nowadays. I am trying to be vigilant and setting my price target when researching stocks.
Setting Your Price Target
You don’t need to come up with a formula or use some complicated valuation but you should be conscious of the price you are willing to pay. Below are some pricing strategy or guidelines.
It can simply be based on the P/E you want the company to have before you purchase. You could look at the past 5 year EPS and establish a target. Depending on the growth or lack of, you can set the EPS target (or use one provided by analysts) and then reverse the formula.
- P/E target is X
- EPS is Y
- P is P
You get the following formula: P = X * Y.
Take BCE as an example, it currently has a P/E of 15.84 and EPS of 2.84 and a price of $45.04. The Forward P/E is 14.3 which is based on future earnings based on the current price. If you think they can have an EPS of 3.39 like 2012 and you want to pick a target P/E of the best competitor of 12 (which is Rogers) then you have a price target of $40.68 which is the bottom of the 52-week low. Another way to choose a P/E is to average the last 5 years at 15.2 for a purchase price of $51.52 (3.39 * 15.2) which would be a future price target based on future earnings. That’s a rather optimistic approach, the pessimistic approach can be to average the last 5 years of EPS for an average of $2.84 and the 5 year P/E average of 15.2 for a price target of $43.20.
Future Price Target from Analysts
You can leverage the price target set by analysts and use that future price target to help you make a decision on the price today. As you may have known, I do pay attention to what the analysts have to say using Stock Chase, I just don’t blindly rely on them.
For example, if a stock is trading at $50 and the analysts have a consensus future price target of $60, that’s a 20% growth. You may decide to not trust the analysts and pick between the current price and the target with $55 and wait on a pullback. The pullback amount is up to you and can be based on the 52-week ratio the company is currently trading in.
You could simply use their price target since they use complicated formulas based on the companies potential.
You can avoid buying at the top of the 52-week and establish when in the range you would be willing to pull the trigger. I personally avoid buying within a 5% range of the 52-week high.
What about the bottom? Do you wait until it bounces back?
Pricing With a Value Model
You can use a value model system if you are interested in using formulas. Dividend Monk does go into details on the calculations if you are interested in reading. There are a few models you can look into.
- Discounted Cash Flow Analysis
- Dividend Discount Model
- Earnings Multiple Approach
Readers: any others to add?
My Price Target Strategy
I don’t particularly set a price but I have some rules:
- I do not buy at the top of the 52-week ratio
- I make sure the P/E is in line with the sector
I have a long-term view of my purchases and as you know, I am dividend oriented to generate income. Based on my investment goals, the specific of a price isn’t the only consideration. The dividend yield also plays a factor along with the dividend growth. To that extent, I am somewhat flexible on the price. Over the past few years, my pricing strategy has worked since the companies have grown in value.
Since picking a price target can be like throwing a dart on a board, I am always prepared to add to my investment. Since I select my companies for the very long term, averaging down is always an option. Unless, of course, the fundamentals change.
Not a very complicated strategy as you can see. :)
Note that I use Morningstar and Globe Investor for a lot of the historical data. It is quite nicely set up.
Dividend Stock Research Series
- Looking at Company Metrics
- The Companies That Matter To You
- Managing The List
- Understanding the Track Record
- Buy & Sell Moments