Predict The Market With
Earnings Per Share
by Randall J. Covill
Take a look at the relationship between changes in earnings
per share for each year and the performance of the market for
the following year. Is there a correlation?
One of Benjamin Graham's investment
classics, The Intelligent
Investor, has a chapter in
which he discusses a comparison
of the change in average
stock earnings and the change
in average stock prices. Intrigued,
I decided to graph and
calculate a linear correlation
coefficient for the actual level
in average stock earnings for
the Standard & Poor's 500 versus the actual level in average
stock prices for the S&P 500 in five-year intervals from 1930
to 1970, as reported by Graham.
My results can be seen in Figure 1; the linear correlation
coefficient is 92.78%. From this, I inferred that changes in average
earnings per share over five years might be a good predictor of
average changes in stock prices over the next five years.