Use of FHist in a historical simulation

Models
1

I’m trying to implement a simple ranking that uses Price/EBITDA, favouring those stocks where this ratio is lower than a 10-year mean.

Will the following work in a historical simulation?

Formulae:
$PEBITDA = Close(0)/EBITDPSTTM
$PEBITDAHist = FHist(“$PEBITDA”, CTR)

Ranking (lower is better):
$PEBITDA/LoopAvg(“$PEBITDAHist”,502)

2

I would like to warn you that EBITDA should not be compared to price but only to enterprise value. The proper measures are EV to EBITDA and price to earnings.

Why?

EBITDA, EBIT, and sales are structure-neutral measures. They do not include interest expense. They apply to the value of the company as a whole (its enterprise value), not just the market value of its equity.

P/E is the ratio of the market value of equity to shareholder’s earnings, from which interest expenses have been deducted.

Let’s say a company has a market value of $8 billion and $4 billion in debt. Its enterprise value will be $12 billion.

Now let’s say its EBITDA is $2 billion and its net income is $1.5 billion because its interest expense is $500 million.

Now let’s say shares in the company are selling for $80.00 because it has a 100 million shares outstanding.

So its price to earnings ratio is 80/15 = 5.33 and its EV/EBITDA is 12/2 = 6.

This all makes sense. But its price to EBITDA doesn’t make sense because you’re deducting the company’s debt in the numerator while you’re not deducting its debt expense in the denominator.

If you want to look at historical PE, we offer some good formulas, including PEHigh, PELow, and PERelative. If you want to look at historical EV/EBITDA, I suggest using FHist in custom formulas, as you have done.

3

Nice summary of concerns. But is there an issue with using FHist inside LoopAvg? This seems to work;
define;
$EBITDA2EVFHist = $FHist(“EBITDATTM/EV”,CTR)
and then use;
LoopAvg(“$EBITDA2EVFHist”,500)

This is the form the OP had and it plots something under the Fundamental charts.

BTW, since EBITDATTM can go negative, but P123’s EV doesn’t, I put EV in the denominator to avoid the usual asymptotic behavior problems around zero.

Walter

4

Walter -
I was wrong, and I want to thank you for correcting me. I didn’t realize that FHist supported CTR. I will emend my previous post.

  • Yuval
5

That’s awesome Walter. A big thank you!

6

That’s very cool Walter. Thanks for sharing. I didn’t realize the CTR would function that way inside a custom formula.

7

Thanks, but Malcolm deserves the credit! BTW, it should be;

$EBITDA2EVFHist = FHist("EBITDATTM/EV",CTR)
8

Thank you very much sharing your expertise, Walter. This will replace a clumsier, and less complete, method that I have been using to calculate average historical valuations using Avg.

Your point about putting enterprise value, price and market cap in the denominator of valuation calculations is very important, and not just because earnings, Ebitda, and the like can go negative. Averaging a ratio like PE creates a distortion relative to aggregate prices divided by aggregate earnings. To get the correct solution, you need to calculate a “harmonic average,” which is the average of the EPs, and then invert the result.

Any many thanks to Malcolm, also.

9

Oops. Yes, my mistake. Thank you Malcolm :wink: