FUNDAMENTAL GUIDES FOR SELECTING PERFORMANCE FUNDS.

HOW TO DETERMINE THE PRICE TO EARNINGS RATIO (P/E)

Among the standard criteria for evaluating the market for stocks within a mutual fund is its price/earnings (P/E) multiple. This figure represents the ratio of the current price of the stock or index to its net earnings per share reported for the most recent twelve-month period. This ratio is useful in analyzing a given security, in comparing values, and in contrasting market levels at various periods. The P/E ratio is most useful with reference to the Dow Jones Industrial Average. At the lowest point in stock market history (in mid-1932), the Dow closed at 41.22. At that point there was no P/E multiple- only an aggregate deficit for thirty-company components. At other times, the Dow's P/E ratio has ranged from 1 to 18, and study of swings have produced useful guidelines for investors:

1. When the P/E multiple is below 7, stocks are a good value and likely to advance briskly within the ensuing year, so the market is a buy. In past years, whenever the Dow stocks below 8 times earnings, they were ripe for accumulation and rewarded those who purchased at those levels
2. When the P/E multiple is above 20, it is a signal that the market is near a peak and that a major sell-off may be in the offering

BOOK VALUE

Book Value is a total of all the company's assets, less any liabilities and the par value of any preferred stock the company may have outstanding. A Company's book value is customarily stated in dollars per share, and this figure is to be found in the company's annual report. When a company is said to be selling "below book value," this means that investors can buy the assets of the company below what the company paid for them. Industrial and utility companies have high book values because they have a large investment in bricks and mortar. Service companies such as insurance and advertising agencies customarily have a low book value since they rely more on their people than their plant. Book value is also a good criterion by which to judge the trends of the marketplace. The Dow's book value represents the average net asset value of its thirty companies. During those times when the Dow has sold below its book value, investors have snapped up stocks at bargain prices. The Dow's book value has served as a valid guide to the best and worst times to buy. The great Depression of 1929 was the only period in market history when the Dow remained under book value for more than three years. From that time until the mid-seventies, the Dow sold "below book" on only three occasions. Each time investors noted the signal and pushed the Dow back up again. The years 1937, 1958, and 1966 saw the Dow push modestly beyond the twice-book-value level. Each of those peaks told investors that the Dow was at unhealthy levels, that a descent was imminent. The most dramatic crash occurred during the mid-sixties when the Dow climbed gradually over the double-book-value level. Before it could break 1000, investors seized the obvious profit-taking opportunity and depressed the market.

DIVIDENDS

Dividends are the distribution paid to stockholders out of current or past profits and earnings. They may be paid from the surplus built up in earlier years. There are two kinds of dividends: cash and stock. Unless otherwise stated, "dividends" refers to cash paid. "Yield" is the dividends divided by the stock price. The yield on the Dow represents the total dividend payments of the Dow's thirty stocks in relation to their stock prices. As demonstrated over the last fifty years, investors are prone to sell seasoned income stocks when this yield drops below 3%. Contrariwise, investors are attracted into the market when the Dow yields 6% or higher. Before the mid-seventies there were three periods during which the Dow provided a 6% return for investors. The longest of these terms began in 1948 and end4ed six years later. It was the richest period in this century for yield-seeking investors to expand their stock portfolios. These three criteria--earnings, book value, and dividend yield-- have documented the beginnings and ends of the two major investment cycles of the last fifty years. The first cycle began in 1932, when the Dow sold below all three markers, peaked in 1937, and then sank back below these valuation points, to fuel the start of yet another great cycle in 1949. The second cycle pushed the Dow once again above book value in the late sixties, and drove it down in the mid-seventies' recession.

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