Focus on the "E" in P/E
Among areas of the economy experiencing intense change, certain industries with high price-to-earnings (P/E) ratios have outperformed, a result of strong innovation and vibrant earnings growth. Rather than focus on P/Es, investors should assess earnings growth potential and the consequences of innovation.
  • Biotechnology, Internet Software & Services, and Internet Retail had the highest P/Es at the start of the 10-year period shown above. However, impressive innovation resulted in those industries generating strong earnings growth and substantially outperforming industries such as Department Stores, Commercial Printing, and Integrated Telecom.

  • The accelerating rate at which innovation is being adopted (see Alger On the Money “Champions of Change”) means that high-growth sectors have potential to continue rapidly growing their earnings and outperforming.

  • Low P/E categories may be “value traps” that are losing market share to more innovative industries. For example, during the 10-year period ended December 31, 2016, the Department Stores industry generated a -5% annualized return compared to the 29% annualized gain for Internet Retail. We believe investors should focus on earnings growth potential rather than simply favoring industries with lower P/Es.

The views expressed are the views of Fred Alger Management, Inc. as of July 2017. These views are subject to change at any time and they do not guarantee the future performance of the markets, any security or any funds managed by Fred Alger Management, Inc. These views are not meant to provide investment advice and should not be considered a recommendation to purchase or sell securities.

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