Surveys, as well as historical data, show something disturbing: most investors don't consider the valuations of a stock to the same degree that they consider their feelings about a company, and many investors don't consider valuation at all. For one such as me, who tries to educate investors, this is deeply depressing, because in fact, the quality of the company is irrelevant if you don't understand valuation. If you do understand valuation, the quality of the company is important, and I realize that may seem to be a paradox. Let me use as an example, a company everyone knows, Facebook (FB).
Facebook has always been, and remains, a company with enormous potential for earnings growth, but when the company went public, it issued far too many shares, at far too high a price, hence IPO investors were burned. Today, Facebook's earnings are rising impressively. It has a trailing P/E Ratio of 100 – and yes, that sounds high – but P/E only matters when compared to growth rate, and in Facebook's case, that produces a PEG Ratio of 1.25, which is fairly low, and hence, represents value. The point is that a good company can burn you as easily as a bad one if you don't pay attention to stock valuations.
For those wondering if I will be commenting on today's most ludicrous recent IPO, read on. (Spoiler alert – I will!)