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Let's get to this story investors look at the price to earnings PE ratio or price to book value when picking things like stocks but we have one money manager who invests.
In small cap stocks based on -- different strategy.
And -- -- Israeli town well gaining nineteen point 4% annually over the past three years not just one year.
Severe not dot T.
Rowe Price director on quantitative equity research joining me now -- severe.
Let's get right to it people been waiting an hour to hear exactly what it is that you use as the better metric vs price to earnings ratio.
Yeah I prefer to use free cash flow -- and free cash flow this metrics to look at valuation.
And then a few reasons -- that.
List as we find out free cash flow yield is a -- of predictor of outperformance and just -- yields -- to book multiple.
Second is that phones which have high cash flow generation.
They can sustain growth for a longer period without having to raise capital by issuing stock are issuing debt.
Good is that free cash flow metrics.
More difficult to many people and then accounting earnings numbers.
Companies with high as three guys for years and has three -- know.
Tend to be attractive takeover targets -- find an auto and -- investors tend to target such company.
It's well well let's let's point out too that you read the -- repressed diversified small cap fund -- the ticker symbol is PR DS acts.
And obviously small caps tend to be more.
I guess more attractive targets when it comes to -- like takeovers but it no.
Pick -- cash flow.
What is it about cash flow obviously you could get a sense of companies making money by cutting down to what it is but why not something like.
Price to book or book value simply based on both assets and liabilities that's what Warren Buffett uses.
Yet at some points and -- a company -- think price to book is an appropriate metric and a different points in the economic cycle especially coming out of recessions.
Price to book might be an attractive metric.
We'll wait and to invest -- companies rich -- can grow over a long period to have sustainable growth in sales and earnings per share.
I thought that we find that three guys companies that produce high free cash flows that tend to be able to sustain lending -- -- For a longer period of time.
Now let's look at -- because I've really wanna get to the three picks and people are waiting for what fits into your metric in the first one as a company -- -- Polaris and by the way folks all these three.
Have done extraordinarily.
Well over the past year but I'm assuming severe that that you think Polaris has more room to -- up beyond the 60% -- every year that it has enjoyed.
I think that's true it's not particularly cheap but it's been a pretty attractive stock and we -- for a long -- And what I -- mix on tour Enrico snow -- and it also makes motorcycles.
What's important about this -- is that it has a high -- -- and equity that's something we like and I investments.
And they have or what the last ten years bought back about fifteen to 20% -- gonna -- which is that -- attractive characteristic of the stuff.
And they have -- free cash flow generation.
There it is the cash flow.
I actually used a Polaris for the first time this summer and I have to tell you a ten year old could do it and they are so solid they'll go over all kinds -- to the really.
Lots of fun.
And done no I didn't want my ten year old -- that David I swear I didn't I'm good.
-- take your next check is Gartner and you would call this a technology stock and again it falls into the better cash flow it's up 35% year for year.
-- gotten -- provides IT services at which are -- technology analysis which is used by chief technology officer has an IT departments.
And it's a way to invest in the technology sector of without.
Dealing with the product risk of individual companies that stand UBS -- -- this technology stocks but much less cyclical I would say.
And again to have it's a backdoor way of investing in individual technology stocks.
All good ideas thank you his third pick Maximus health -- -- -- thank you so much for joining us to talk about cash flow vs price to earnings.
Always different ideas on the show thank you.