Book value

Two S&P 500 Sectors Trade Below Economic Book Value After 3Q21 Results

This report is a free, abridged version of S&P 500 & Sectors: Price-to-Economic Book Value Through 3Q21, one of the reports in my quarterly series on Fundamental Market and Industry Trends.

The full version of this report analyzes[1][2] Market capitalization, economic book value and price to economic book value (PEBV) for the S&P 500 and each of its sectors (last quarter analysis is here).

S&P 500 trailing PEBV ratio fell year over year

The PEBV ratio for the S&P 500 remains unchanged year over year at 1.5 in 3Q21. The S&P 500 trailing PEBV ratio was around this level for much of 2017-2019, before falling in early 2020.

This final PEBV ratio compares the expected future earnings of the S&P 500 (integrated into its equity valuation) with the earnings of the TTM in 3Q21. At 1.5, the S&P 500 valuation implies that S&P 500 earnings (NOPAT) will rise 50% from 3Q21 levels.

Key details on some sectors of the S&P 500

Two sectors of the S&P 500, Telecommunications Services and Consumer Staples, trade below their economic book value and two, Health Care and Financials, trade at their economic book value. The Telecommunications Services sector has the lowest PEBV ratio among the 11 S&P 500 sectors based on prices as of 11/16/21 and financial data as of 3Q21 10-Qs.

A PEBV ratio of 0.5 means the market expects 3Q21 telecommunications services sector profits to decline by 50% from current levels. On the flip side, investors expect the real estate and energy sectors (PEBV ratios of 3.9 and 3.1) to improve their earnings more than any other sector in the S&P 500.

Below, I highlight the telecommunications services sector, which has the lowest PEBV ratio of the S&P 500 sectors.

Example of sector analysis[3]: Telecommunications services: Follower PEBV ratio = 0.5

Figure 1 shows that the PEBV ratio for the telecommunications services sector fell from 0.8 in 3Q20 to 0.5 in 3Q21. The market capitalization of the telecommunications services industry grew from $ 758 billion in 3Q20 to $ 677 billion in 3Q21, while its economic book value increased from $ 997 billion in 3Q20 to $ 1.5 trillion in 3Q21.

Figure 1: PEBV leakage ratio for telecommunications services: December 2004 – 11/16/21

The measurement period of November 16, 2021 uses price data on that date and incorporates financial data from 3Q21 10-Qs, as this is the earliest date for which all 3Q21 10-Q calendars for components of the S&P 500 were available.

Figure 2 compares the trends in market capitalization and economic book value for the telecommunications service industry since 2004. I am summing the individual constituent values ​​of the S&P 500 / sector for market capitalization and economic book value. I call this approach the “Aggregate” methodology, and it corresponds to the S&P Global (SPGI) methodology for these calculations.

Figure 2: Market capitalization of telecommunications services and economic book value: December 2004 – 11/16/21

The measurement period of November 16, 2021 uses price data on that date and incorporates financial data from 3Q21 10-Qs, as this is the earliest date for which all 3Q21 10-Q calendars for components of the S&P 500 were available.

The Aggregate methodology provides a direct snapshot of the entire S&P 500 / sector, regardless of company size or index weight, and is how S&P Global (SPGI) calculates metrics for the S&P 500.

For an additional perspective, I compare the aggregate method for the tracking PEBV report with two other market-weighted methodologies: market-weighted metrics and market-weighted drivers. These market weighted methodologies add more value for ratios that do not include market values, for example ROIC and its drivers, but I am including them here, nonetheless, for comparison. Each method has its advantages and disadvantages, which are detailed in the appendix.

Figure 3 compares these three methods of calculating the PEBV leakage ratio for the telecommunications services sector.

Figure 3: Methodologies of the PEBV report on the leakage of telecommunications services compared: December 2004 – 16/11/21

The measurement period of November 16, 2021 uses price data on that date and incorporates financial data from 3Q21 10-Qs, as this is the earliest date for which all 3Q21 10-Q calendars for components of the S&P 500 were available.

Disclosure: David Trainer, Kyle Guske II, and Matt Shuler receive no compensation for writing about a specific action, style, or theme.

Annex: Analyze the tracking PEBV report with different weighting methodologies

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

The Aggregate methodology provides a direct snapshot of the entire S&P 500 / sector, regardless of company size or index weight, and is how S&P Global (SPGI) calculates metrics for the S&P 500.

For an additional perspective, I compare the aggregate method for the trailing PEBV ratio with two other market-weighted methodologies. These market-weighted methodologies add more value for ratios that don’t include market values, for example ROIC and its drivers, but I’m including them here, nonetheless, for comparison:

Market-weighted metrics – calculated by weighting according to market capitalization the following PEBV ratio for individual companies in relation to their sector or to the overall S&P 500 during each period. Details:

  1. The weight of the company is equal to the market capitalization of the company divided by the market capitalization of the S&P 500 or its sector
  2. I multiply the follower PEBV ratio of each company by its weight
  3. S&P 500 / Sector Trailing PEBV is equal to the sum of the weighted ratios of PEBV Trailing for all companies in the S&P 500 / sector

Market weighted factors – calculated by weighting the market capitalization of the market capitalization and the economic book value of the individual companies in each sector during each period. Details:

  1. The weight of the company is equal to the market capitalization of the company divided by the market capitalization of the S&P 500 or its sector
  2. I multiply the market capitalization and the economic book value of each company by its weight
  3. I sum the weighted market capitalization and the weighted economic book value for each company in the S&P 500 / each sector to determine the S&P 500 or the weighted FCF of the sector and the weighted enterprise value
  4. The S&P 500 trailing PEBV / sector ratio is equal to the weighted S&P 500 / market capitalization of the sector divided by the weighted economic book value of the S&P 500 / sector

Each methodology has its advantages and disadvantages, as shown below:

Aggregate method

Advantages:

  • A simple overview of the entire S&P 500 / industry, regardless of company size or weighting.
  • Corresponds to how S&P Global calculates S&P 500 metrics.

The inconvenients:

  • Vulnerable to the impact of companies entering / exiting the group of companies, which could unduly affect overall values. Also sensitive to outliers over a period of time.

Market-weighted metrics method

Advantages:

  • Takes into account a company’s market capitalization relative to the S&P 500 / sector and weights its measures accordingly.

The inconvenients:

  • Vulnerable to outliers from a single company disproportionately impacting the overall PEBV leakage ratio, as I will show below.

Market-weighted factor method

Advantages:

  • Takes into account a company’s market capitalization relative to the S&P 500 / sector and weights its size and economic book value accordingly.
  • Mitigates the disproportionate impact of a company’s aberrant results on overall results.

The inconvenients:

  • More sensitive to large fluctuations in market capitalization or economic book value (which may be affected by changes in the WACC) from period to period, especially from companies with a high weight in the S&P 500 /sector.

[1] I calculate these metrics based on the S&P Global (SPGI) methodology, which sums up the individual constituent values ​​of the S&P 500 for market capitalization and economic book value before using them to calculate the metrics. This is what I call the “Aggregate” methodology.

[2] My research is based on the latest audited financial data, which is 3Q21 10-Q in most cases. Price data is as of 11/16/21.

[3] The full version of this report provides analysis for each industry like what I am showing for that industry.