What is the significance of a higher or lower trailing PE vs. a forward PE?

Question

I know that PE is market cap. divided by either trailing or projected earnings, so is it accurate to say that if a company has a lower forward PE vs. trailing, that the expected future earnings are expected to be higher than the trailing earnings? I am assuming, of course, that market cap does not change significantly.

Answer 1

Trailing P/E is based on fact. Forward P/E is based on speculation, often hopeful thinking. You'll notice that Forward P/E is typically smaller than trailing P/E. As you've surmised, a smaller forward P/E is based on the expectation that earnings will rise and price will stay approximately the same. Treat all forward P/E ratios with caution, just as you should the one-year price estimate. As a side note, the PEG ratio, which some analysts place so much weight on, is also based on projected growth.

Answer 2

Yep, that's pretty much it. I generally prefer to use a trailing PE ratios as there's no way to be certain about forward earnings. However comparing forward to trailing earnings is a good way of determining if the market is expecting a company's earnings to drop off a cliff.

You can also often find published projections of growth rates (in Yahoo Finance or Value Line for example) but such numbers should be treated very sceptically.