Can we compare the companies directly with the justified price multiple to see which one is overvalued or undervalued?

[dududu100]

Can you compare the companies directly with the justified price multiple to see which one is overvalued or undervalued?
Did a question 37 from Kaplan second book mock 2 morning session the other day.
They calculated the justified P/B ratios for three firms and find out the true price with the P/B. Then, they compare the calculated price (fundamental price) with the current trading price. I wonder why cant we just use the justified P/B directly to measure which company is overvalue or undervalued?
Thanks!

 

[Yayyywork]

Because the justified P/B ratio only tells you a number that the formula says is justified. If you dont look at the actual P/B ratios then how can you actual tell how the firm is valued? A firm may have a higher P/B value while trading way above that, while the others may be relavtively cheap by that metric.

 

[a13firman]

Eh I see what you’re getting at but let me go on a quick tangent to illustrate why you normally can’t.
Imagine just using a market PE to see if a company is over or undervalued. If I said that Large Cap Growth stock had a PE of 20, would that be expensive? You don’t really know. It depends on a ton of factors. For me, the growth rate jumps out as the determining factor. So isolating a metric doesn’t really say too much (I’m simplying… I know Buffet loves P/B in and of itself).
Going back to P/B, one of the uses of the justified metrics is to get a metric that is more objective than the market. You can then compare it to the market price or valuation to see how that is reflected. If there is a big discrepancy it might give you insight into the stock being over or undervalued.

 

[dududu100]

Never thought about this. This is great to know! Thank you both for the help!!