Economy & Business, Volume 10, 2016

Abstract: This paper is examining the proposition that portfolios of stocks with lower P/E ratios beat portfolios of stocks with higher P/E ratios as well as the aggregate market portfolio of Croatian equities. Testing for the P/E effect in Croatia from 2005 to 2016 revealed that none can be found. Risk adjusted returns of the individual portfolios appear to be distributed randomly, regardless of their P/E level and number of securities. Still, all examined portfolios performed better on a risk-adjusted basis than an equally weighted aggregate market portfolio. This is because the returns of the market portfolio are brought down by companies with negative earnings (negative P/E ratios), which were excluded in the individual portfolios. So, while a clear connection between the level of P/E and subsequent returns could not be found, it seems that in Croatia investors would benefit simply by not selecting negative P/E stocks in their portfolios.