Suppose Doc Brown — the mad scientist from the 1985 hit film Back to the Future — were to briefly take you on a quick roundtrip visit to January 1, 2013 in his DoLorean time machine. If the only two pieces of information you were able to gather on the voyage is Apple’s trailing twelve months of earnings (TTM) and its current trailing P/E ratio, you would have everything you needed to predict what Apple’s exact stock price will be on January 1, 2013.
Determining Stock Price Per Share (PPS)
In fact, Apple’s stock price (or PPS) is the product of multiplying its earnings per share (EPS) by its trailing P/E ratio — EPS(P/E) = PPS. Thus, if upon landing in 2013 you were told that Apple’s P/E ratio is 12.5 and its trailing twelve month of earnings (TTM – EPS) is $40.00, then it necessarily follows that Apple’s stock price is $500.00.
And as this thought experiment clearly illustrates, if one has the ability to predict a stock’s EPS and P/E ratio, then he or she also has the ability to predict and forecast a stock’s future share price. Being able to forecast each of these variables — EPS & P/E — demands a significant breadth of knowledge in two entirely different and unrelated fields.