Research Articles

The Interpretation Of The Earnings and Price Correlated F.A.S.T. Graphs™ Made Simple

Chuck Carnevale - Tuesday, August 26, 2014

At their core, F.A.S.T. Graphs™ are easy to interpret and understand.  When you are clear on what the lines and shaded areas on a F.A.S.T. Graphs™ represent, you will experience an instantaneous and comprehensive understanding of the business behind the stock, and how the market has, and is, pricing it.

The Orange Line and Green Shaded Area

First, F.A.S.T. Graphs™ plots the earnings of the company and calculates its growth rate for the time period being graphed.  Then presented as a theoretical calculation or metaphor for intrinsic value, an orange line with white triangles is generated based on applying widely-accepted formulas for valuing a business.  The orange line represents the same P/E ratio on every point on the graph and is also reported in the orange rectangle in the FAST FACTS box to the right.  The green shaded area is simply a mountain chart of the company’s earnings each year.

For companies growing earnings at a rate of 15% or better, the classic formula P/E equals growth rate, commonly referred to as PEG, and made famous by Peter Lynch is applied.  Therefore, when a company’s earnings growth is 15% or greater, the orange line will have a P/E ratio that is equal to its growth rate.  When this formula is used, it is designated with the letters “P/E=G” in the orange rectangular box on the FAST FACTS to the right.  The following F.A.S.T. Graphs™ on Visa Inc (V) is an example of a fast-growing company utilizing the P/E=G formula.

For the timeframe graphed below, Visa achieved an operating earnings growth rate of 24.9% which is listed in the green rectangular FAST FACTS box to the right.  Then notice that the P/E ratio of Visa’s orange line is also 24.9 which is equal to its earnings growth rate.  The designation P/E=G in the orange rectangle designates what formula the F.A.S.T. Graphs™ has used to calculate fair value.

Our second example is Southern Company (SO), a slow-growing utility stock whose operating earnings growth rate has only averaged 2.9% during the 11-calendar year timeframe graphed.  Here we see the operating earnings growth rate of 2.9% shown in the green rectangle on the FAST FACTS to the right.  However, in this case the P/E ratio of the orange line is 15, and was calculated using the famous formula authored by Ben Graham.  The designation GDF, which stands for Graham Dodd Formula, is included in the orange rectangle in the FAST FACTS to alert the reviewer to the formula used, and to the growth rate the company has achieved.

Across the entire span of the graph, the P/E ratio in this low growth example is 15.  Additionally, the slope of the orange line in this example is 2.9%, or the earnings growth rate of Southern Company in this example.  Once again, the green shaded area represents a mountain chart of Southern Company’s earnings.

Our third example is Colgate-Palmolive Company (CL), which has a moderate rate of operating earnings growth that has averaged 8.6% per annum.  When earnings growth is above 5% but below 15%, the P/E ratio is calculated utilizing an extrapolation of the two previous formulas (P/E=G and GDF) with the connotation GDF...P/E=G - Formula (note that the dots between them are utilized to indicate that the extrapolated formula is being used).

Once again, the fair value P/E ratio that applies to the orange line is listed in the orange rectangle under the FAST FACTS to the right of the graph.  In the Colgate Palmolive example the P/E ratio of the orange line is 15 across the entire span of the orange line on the graph.  However, the slope of the line is equal to the company’s 8.6% growth rate, which is listed in the green rectangle in the FAST FACTS to the right.

To summarize, the orange line and green shaded area depict the company’s operating earnings during the timeframe graphed.  The intrinsic value, or P/E ratio, is calculated and listed in the orange rectangle in the FAST FACTS.  The earnings growth rate, which is also the slope of the orange line, is listed in the green rectangle in the FAST FACTS to the right of the graph.  Finally, the green shaded area represents a mountain chart of the company’s earnings. 

More simply stated, the orange line and green shaded area give you a graphic portrayal and instant look at the business behind the stock.  This is the most distinguishing and salient feature of the F.A.S.T. Graphs™ (Fundamentals Analyzer Software Tool) stock research tool.  Most other stock graphing tools plot price only.  As you will soon see, F.A.S.T. Graphs™ in contrast reveals the earnings and price relationship of the stock and the business behind the stock.

Dividends are Expressed in Two Important Ways

First, dividends are expressed on the F.A.S.T. Graphs™ reflecting that they have been paid out by the light blue shaded area sitting on top of the orange earnings justified valuation line.  Later when price is included on the F.A.S.T. Graphs™, you will see how the market prices earnings, representing capital appreciation, and how the dividend represents the second component of total return - dividend income.  This is the primary reason why the blue shaded area representing dividends is included and depicted outside the green shaded area, which depict earnings.

Another advantage of expressing the dividends paid out in this manner is that the reviewer of the F.A.S.T. Graphs™ can instantly see whether or not a company pays a dividend, and for companies that have just started paying a dividend, they can also see when the dividend has first been initiated.

In addition to expressing dividends after they have been paid out by the light blue shaded area on top of the orange earnings justified valuation line, dividends are also expressed by a light pink line within the green shaded earnings area.  This serves two important purposes.  First, it allows the reviewer to instantly see whether dividends have grown consistently, or have been cut at any time during the timeframe graphed.  The pink line is simply a plotting of the company’s dividends each year utilizing the same multiplier that applies to the orange line on the graph. 

When expressed this way, the second purpose of the pink line is to graphically illustrate the dividend payout ratio of the company.  The entire area below the pink line represents the portion of the earnings (the green shaded area) that are paid out and simultaneously expressed by the blue shaded area on top of the orange earnings justified valuation line.  In the case of our Church & Dwight Inc (CHD) example below, the pink line also alerts the reviewer to any changes in the company’s payout ratio (Notice how Church & Dwight Inc’s payout ratio increased dramatically in 2012 and 2013).  To understand this better, think of the area below the pink shaded area as a blank spot in a puzzle, and the light blue shaded area as the puzzle piece that would fit there. 

This would still be true for a company with very cyclical earnings, however, the light blue shaded area could give the illusion that dividends were being cut because they are stacked on a rising and falling orange earnings line.  This is an additional benefit of the light pink dividend line, it will instantly reveal whether the dividend has been cut, raised, or lowered over the timeframe graphed. 

In the Chevron Corporation (CVX) example shown below, by observing the pink line we see that their dividend increased even during the time following the Great Recession when earnings dropped.  Because dividends paid are stacked on top of the orange line, the light blue shaded area would give the false illusion that dividends fell when in actuality they increased.

Introducing Monthly Closing Stock Prices

The black line on a F.A.S.T. Graphs™ plots monthly closing stock prices for the timeframe being graphed.  When added to the earnings and dividend graph, the correlation between how well the business has done and how stock price has reacted and correlated is vividly revealed.  On graph after graph where earnings go the price is sure to follow.  With this example we turn to Ross Stores Inc (ROST) that represents a quintessential example of the earnings and price relationship.

The Blue Normal P/E Ratio Line

Moreover, and as an oversimplification, when the black line is above the orange line, overvaluation is indicated.  When the black line is touching the orange line, fair value is indicated.  When the black line is below the orange line, undervaluation is indicated.  However, the real world does not always cooperate as planned.  There are certain companies that the market typically overvalues or undervalues, and the F.A.S.T. Graphs™ research tool reveals these situations when they occur by adding an additional line to the graph called the normal P/E ratio line (the dark blue line).

F.A.S.T. Graphs™ automatically calculates the P/E ratio that the market has most commonly applied to a given stock over any timeframe that is graphed.  This adds a second metaphor of valuation to the F.A.S.T. Graphs™.  It’s important to state here that F.A.S.T. Graphs™ were not designed to dictate fair value.  Instead, they were designed to reveal it.  In other words, it is up to the user to decide whether or not the blue normal P/E ratio line on the graph, or the orange earnings justified valuation line on the graph, is the right one to base valuation decisions on. The essence of FAST Graphs™ is that they are “a tool to think with.”

Therefore, with the Coca-Cola Company (KO) example below, there are two expressions of valuation included.  The blue line representing the normal P/E ratio, and the orange earnings justified valuation line.  The key to evaluating either of these metaphors of valuation is simply to look closely at the graph and ask yourself which line most appropriately represents a reasonable valuation for the company over the timeframe being graphed.  It is also important to notice how the black monthly closing stock price line trends and correlates with both lines.  In other words, where earnings go, price is sure to follow.

Understanding the Associated Performance Results

As a great convenience and benefit to the subscriber, F.A.S.T. Graphs™ automatically calculates the performance of the company over the timeframe graphed.  The performance results table is easy to interpret and understand.  Just under the company’s name and symbol is the performance table.  The top of the table shows the amount invested, the beginning shares purchased, and the split-adjusted price for the date in which the graph begins.  At the top right corner we see the closing values and closing prices through the previous day’s close.

Next we have the dividend cash flow table.  Here you see the fiscal year-end, the dividends per share, the dividend growth rate, earnings per share payout ratio in percentages year-by-year and averaged for the timeframe, the end of period shares, dividends paid, and finally, yield on cost.  Tallies are given at the bottom of the table for the appropriate columns.

Finally, the performance report shows total cumulative dividends paid, the amount of capital appreciation and the annual return it represents, followed by total return information that includes dividends in the total.  In the example below, dividends are not reinvested, but F.A.S.T. Graphs™ are given the option to calculate the same performance with dividends reinvested by simply checking a box and redrawing the graph.

The Estimated Earnings and Return Calculator - A Forecasting Graph

Finally, the basic Earnings and Price Correlated F.A.S.T. Graphs™ set includes a forecasting graph.  Before we explain the components of this simple graph, the reader’s attention is drawn to the word “calculator” in the description.  Subscribers are given the option to input their own estimates into the Estimated Earnings and Return Calculator (Note:  The growth rate in the calculator may be different than the growth rate on the historical graphs above.)

However, the default setting for F.A.S.T. Graphs™ is based on reporting the consensus estimates of leading analysts reporting to S&P Capital IQ.  The number of analysts providing estimates for the long-term earnings growth rate (the estimated three to five-year earnings growth rate) is listed in the green rectangular box in the FAST FACTS to the right of the Estimated Earnings and Return Calculator graph.

Additionally, there are several other estimates that the Estimated Earnings and Return Calculator provides.  The second estimate is a specific dollar amount for the current fiscal year (in the example below 2014) earnings per share is found directly below the graph, and is marked with a capital “E” for estimate. 

Just below the earnings per share figure is a column depicting each year’s change per year (Chg/Yr) thereby enabling the subscriber to compare the current fiscal year forecasts against the company’s historical norm.  Just under this column are the number of analysts (#Analysts) comprised in the forecast.  The next estimate is also a specific earnings per share number forecast for the next fiscal year, and again, the number of analysts making this forecast is indicated.  Beyond these numbers there will be one or two additional years of specific estimates.  However, it should be noted that the number of analysts providing these forecasts tend to drop off significantly.  Following the final specific forecasts the graph simply extrapolates the long-term estimated earnings and growth rate.

As a general rule, it is suggested that more credence be given to near forecasts.  It is only logical to assume that the closest forecasts could be expected to be more accurate than for years farther out.  Furthermore, there are typically more analysts comprising the consensus for the closest years.

Summary and Conclusions

F.A.S.T. Graphs™ are easy to interpret and utilize when you know what you are reviewing.  The orange line on the graph shows earnings per share and reflects the growth rate of the company’s operating history.  The black line represents monthly closing stock prices and how they track those earnings.  The light blue shaded area shows dividends, and an additional dividend expression is given by the light pink line in the dark green shaded earnings area.  The dark blue line on the graph calculates the price earnings ratio (normal P/E) that the company has historically traded at during the timeframe being graphed.

Now you know why we state that F.A.S.T. Graphs™ provide essential fundamentals at a glance.  In an instant you can see how well the business behind the stock you are reviewing has done, how the market has historically priced it, how the market is currently pricing it, what type of performance this has generated for shareholders, and finally, how the stock is currently being valued by the marketplace.

Disclaimer: The opinions in this document are for informational and educational purposes only and should not be construed as a recommendation to buy or sell the stocks mentioned or to solicit transactions or clients. Past performance of the companies discussed may not continue and the companies may not achieve the earnings growth as predicted. The information in this document is believed to be accurate, but under no circumstances should a person act upon the information contained within. We do not recommend that anyone act upon any investment information without first consulting an investment advisor as to the suitability of such investments for his specific situation.


Testimonials


“I appreciate your work, Chuck. As a subscriber to FAST Graphs™, I use the tool to decide on whether to purchase additional shares of what I currently hold or to add a new holding. Your articles help me make full use of the tool and give other readers valuable information, if they take the time to learn. One of the biggest enhancements that I use is the FFO data added for MLPs and REITs.”


“When FAST Graphs™ were unavailable because of Hurricane Sandy, I realized how much I need them in order to make investment decisions.

(Wish I could be) Long FAST Graphs!!!”


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“Yesterday, I signed up for your F.A.S.T. Graphs™. It's a really amazing, valuable tool for checking over/undervaluation of stocks. Wish I had it years and years ago!!”


“Love the F.A.S.T. Graphs™: One glance and you know a whole lot.”


“About Chuck's F.A.S.T. Graphs™: They are invaluable to me in making decisions about the stocks I own (in addition to what you are saying about doing other research) and the ones I hope to own in the future.”


"Chuck -- Your proprietary F.A.S.T. Graphs™ are a VERY impressive tool!"


“If there were an Investor Hall of Fame for people who have helped others with their investing, and sharing valuable information, you and your F.A.S.T. Graphs™ would get one of my selections.”


“I love Chuck's F.A.S.T. Graphs™! Well worth the price of admission for what he gives you.”


"Chuck - Thank you for your well thought out articles. I tend to be a visual type of person so I really appreciate the F.A.S.T. Graphs™ approach."


"Great article, as always! I always look forward to your articles, and am especially eagerly awaiting your next in this series. I find the F.A.S.T. Graphs™ extremely helpful."


“Your F.A.S.T. Graphs™ put all of this in a single artful picture and the accompanying spreadsheets hammer home the point.”


“I use the F.A.S.T. Graphs™ method to evaluate all of my ideas. I recommend it for individual investors, since it helps them focus on data and get past the many emotional arguments.”


“I recently subscribed to the F.A.S.T. Graphs™, and these articles are helping me learn how to better use them. They really do give you a good quick look at the valuations picture. A much needed tool!”


“I also always appreciate the clear-cut information provided through your F.A.S.T. Graphs™ and articles.”


“Thanks, Chuck, for your F.A.S.T. Graphs™. Each of these graphs is worth 1,000 words in describing a company's growth, consistency and valuation. Thanks for sharing your graphs.”


“Thanks, Chuck. Love the F.A.S.T. Graphs™! It makes investing so much more clear.”


“Chuck's F.A.S.T. Graphs™: They are invaluable to me in making decisions about the stocks I own (in addition to what you are saying about doing other research) and the ones I hope to own in the future.”


”I am amazed at the usefulness of your F.A.S.T. Graphs™ and I plan on using them for a long time to come.”


“Chuck's F.A.S.T. Graphs™ will give you a tool to find those well chosen stocks...”


“Thanks for the F.A.S.T. Graphs™, Chuck. They are the best tool I've used.”


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Testimonials


“I appreciate your work, Chuck. As a subscriber to FAST Graphs™, I use the tool to decide on whether to purchase additional shares of what I currently hold or to add a new holding. Your articles help me make full use of the tool and give other readers valuable information, if they take the time to learn. One of the biggest enhancements that I use is the FFO data added for MLPs and REITs.”


“When FAST Graphs™ were unavailable because of Hurricane Sandy, I realized how much I need them in order to make investment decisions.

(Wish I could be) Long FAST Graphs!!!”


“One more vote for the value of FAST Graphs™; just started a subscription to Chuck's great service (premium), and am having a ball analyzing so many stocks quickly.”


“I feel very ill-equipped to make investment decisions without Fast Graphs. :-)”


“Yesterday, I signed up for your F.A.S.T. Graphs™. It's a really amazing, valuable tool for checking over/undervaluation of stocks. Wish I had it years and years ago!!”


“Love the F.A.S.T. Graphs™: One glance and you know a whole lot.”


“About Chuck's F.A.S.T. Graphs™: They are invaluable to me in making decisions about the stocks I own (in addition to what you are saying about doing other research) and the ones I hope to own in the future.”


"Chuck -- Your proprietary F.A.S.T. Graphs™ are a VERY impressive tool!"


“If there were an Investor Hall of Fame for people who have helped others with their investing, and sharing valuable information, you and your F.A.S.T. Graphs™ would get one of my selections.”


“I love Chuck's F.A.S.T. Graphs™! Well worth the price of admission for what he gives you.”


"Chuck - Thank you for your well thought out articles. I tend to be a visual type of person so I really appreciate the F.A.S.T. Graphs™ approach."


"Great article, as always! I always look forward to your articles, and am especially eagerly awaiting your next in this series. I find the F.A.S.T. Graphs™ extremely helpful."


“Your F.A.S.T. Graphs™ put all of this in a single artful picture and the accompanying spreadsheets hammer home the point.”


“I use the F.A.S.T. Graphs™ method to evaluate all of my ideas. I recommend it for individual investors, since it helps them focus on data and get past the many emotional arguments.”


“I recently subscribed to the F.A.S.T. Graphs™, and these articles are helping me learn how to better use them. They really do give you a good quick look at the valuations picture. A much needed tool!”


“I also always appreciate the clear-cut information provided through your F.A.S.T. Graphs™ and articles.”


“Thanks, Chuck, for your F.A.S.T. Graphs™. Each of these graphs is worth 1,000 words in describing a company's growth, consistency and valuation. Thanks for sharing your graphs.”


“Thanks, Chuck. Love the F.A.S.T. Graphs™! It makes investing so much more clear.”


“Chuck's F.A.S.T. Graphs™: They are invaluable to me in making decisions about the stocks I own (in addition to what you are saying about doing other research) and the ones I hope to own in the future.”


”I am amazed at the usefulness of your F.A.S.T. Graphs™ and I plan on using them for a long time to come.”


“Chuck's F.A.S.T. Graphs™ will give you a tool to find those well chosen stocks...”


“Thanks for the F.A.S.T. Graphs™, Chuck. They are the best tool I've used.”