Heuristics

Is P/E a good short-cut? It measures the price of a stock as compared to its earnings, but it the metric could be very flawed. It measures the past year's earnings and there could be a lot of cyclicality in the industry so a low P/E is buying at the peak of the cycle. What has been true in the past will not necessarily be true in the future. And GAAP earnings is not cash flow. Is cashflow a better measure? It's better, but not perfect. What is the duration of the cashflow. What is the quality of the cash flow. How is the cashflow allocated. Is Return on Capital or its subsets of Return on Invested Capital or Return on Incremental Invested Captial a better measure? The returns should all trend towards that in the long-run, but it's more important to understand the why. Why are all these measures a good heuristic. They also don't exist in a vacuum and it has to be compared against opportunity cost and its risks taken. Rules are the guidance for the wise and the obediecne of the fool.