LONDON -- The FTSE 100 has risen by nearly 20% over the last six months, and many top shares are beginning to look quite expensive.
I'm on the hunt for companies that still look cheap, based on their long-term earnings potential. To help me hunt down these bargains, I'm using a special version of the price to earnings ratio called the PE10, which is one of my favourite tools for value investing.
The PE10 compares the current share price with average earnings per share for the last ten years. This smoothes out any short-term volatility and lets you see whether a company looks cheap compared to its long-term earnings.
Is BHP Billiton a buy?
The mining sector has been left behind by the wider market so far in 2013, and BHP Billiton's share price has fallen by 13% since the start of the year -- so is it a buy?
Let's take a look at BHP's current price-to-earnings ratio, and its PE10:
My calculations show that BHP Billiton's current trailing P/E is 12.4, which is significantly cheaper than its long-term PE10 of 15.4. Based on these numbers, BHP Billiton could be a buy.
One reason I think BHP looks attractive at the moment is its diversity. Although it is known as a big mining firm, is also a significant oil and gas producer. In the first half of the firm's current financial year, BHP's petroleum earnings were $3.1 billion -- around 30% of the firm's total earnings.
I believe that oil prices are likely to remain fairly high, so BHP's profitable petroleum business should help protect the firm from any possible downturn in the iron ore, metals and coal markets, which might affect peers such as Anglo American and Rio Tinto more severely.
A powerful buy signal
Another strong buy signal for BHP Billiton, in my view, is its 3.9% dividend yield. This is nearly 25% higher than the FTSE 100 average of 3%, and is also higher than the other big miners in the FTSE 100.
At the same time, 3.9% isn't high enough to look unsustainable, and BHP says its current $4.3 billion divestment program should "realize significant value for shareholders", raising the possibility of additional shareholder returns.
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If you already own shares in BHP Billiton, then I'd strongly recommend that you take a look at this special Motley Fool report. Newly updated for 2013, it contains details of top UK fund manager Neil Woodford's eight largest holdings.
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