I suspect that the stock market is in for a very rough ride this summer, so I was reviewing one of my holdings, IBM, to see how low it could conceivably trade. The stock was already a bit richly valued when it was trading above $200.
I'm assuming that earnings will remain fairly stable for the time being with no huge downside surprises. Even so, there's room for the stock to fall to 170, maybe even into the 130s on a serious market decline.
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PE Ratio
With trailing 12-month earnings of $13.36 per share, IBM now trades at a 14.10. This chart shows how the stock has traded against a few different PE levels.
I suspect the stock could move down to a 12 PE level, which would mean a price of about $160. At a 10 PE, the price would be more like $133, but the stock hasn't hit that PE level since the December 2008 bottom.
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Gross Profits
Earnings are probably the most important metric, but I also looked at gross profits. For the past couple of years, IBM has traded between 4 and 5 times gross profits. At a gross profit of around $43.50 per share, IBM is now priced at 4.4 times gross profits.
A move down to 3 times gross profits would take the stock down to $130, but that would be an extreme move. But even a move down to 3.5 times gross profits means the stock could trade down to $152.
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Dividend Yield
IBM's dividend has doubled since 2007 and is up by 50% since the March 2009 bottom. Back in December of 2007, the stock traded for less than $80 - giving it a yield of a bit more than 2.5%.
Today, with a dividend of $3.40 per share, that 2.5% yield level is more like $136. With a 2% yield, the stock would trade for $170.
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So if the market just tanks a bit, I'd say IBM could trade into the 170s. If we see a new Lehman-style financial crisis emerging, then it could push the stock all the way down into the 130s.
IBM makes up more than 11% of the Dow Industrial Average right now. A 50 point drop in IBM would take the Dow down by 375 points just on its own - something to keep in mind if you're trading the Dow Industrial Average ETF.
Disclosure: I am long IBM.
