This article explains what this ratio is all about and how it can be used to judge if a stock is trading at a fair value
The term price earning ratio (P/E ratio) is commonly used while making investment decisions by investors. Investors rely on this ratio to base their investment decisions in equities. Simply stated, a P/E ratio is the ratio between the market price of the share and the earning per share (EPS). The ratio tells you how many times the market price of the shares is vis-à-vis its earning per share. According to one view, lower the P/E ratio, the better it is for the investors, as there are chances of appreciation. And vice versa, i.e., higher the ratio, lesser are the chances of appreciation. Moreover, the risk element also increases. According to others, it is the other way round.
P/E ratio is a valuation ratio of a company's current share price compared to its per-share earnings. It is calculated as market value per share divided by earnings per share. For example, if a company's stock price is $ 100 and it has an EPS of $ 5, the P/E ratio is $ 100 divided by $ 5 that is 20.
EPS is can be taken for the full year, from the last few quarters or from the estimates of earnings expected in the next few quarters. Sometimes, P/E ratio is referred to as the multiple because it shows how much investors are willing to pay per rupee of earnings. In general, a high P/E ratio means high projected earnings in the future. However, the P/E ratio actually doesn't tell us a whole lot by itself. It's usually only useful to compare the P/E ratios of companies in the same industry, with the market in general, or against a company's own historical P/E ratios.
The higher the P/E ratio, the more you are paying for an estimated stream of earnings. Investors are usually willing to pay a higher P/E ratio for companies they judge will be growing faster than the norm even though they do not pay those earnings out in dividends but retain them to fund future growth. If that growth is realised, the price of the company's stock usually grows faster than the stock price of a company with slower growth.
However, if the estimated earnings are not realised or the stock market itself loses favour with the investor, the downside potential is greater as well. The risk is not just the ability of the company to make profits, but the investment risk in the higher price one paid relative to earnings. If a company goes from a P/E ratio of 50 to a P/E ratio of 25 and maintains earnings of $ 5 a share, your investment goes from a value of $ 250 per share to a value of $ 125 per share even though the company is still earning profits.
The P/E ratio is a commonly used way to value a company and to determine what the company's stock should be worth. It is simply a company's stock price divided by its earnings per share.
The P/E ratio gives an indication of how many times you are paying for a company's stock verse a company's earnings. It can be used to compare a company against other companies, or against a company's own historical P/E ratios. Generally a company with a high (large) P/E ratio is expensive as against a company with a lower P/E ratio, since with a high P/E ratio you are paying a larger multiple against the company's earnings.
Higher P/E ratio's are often associated with 'growth stocks', or companies that are growing faster than average. Investors believe that the company's earnings will be higher in the future. Usually, this yardstick is used to analyse whether a stock is undervalued, overvalued or trading at fair value.
The term price earning ratio (P/E ratio) is commonly used while making investment decisions by investors. Investors rely on this ratio to base their investment decisions in equities. Simply stated, a P/E ratio is the ratio between the market price of the share and the earning per share (EPS). The ratio tells you how many times the market price of the shares is vis-à-vis its earning per share. According to one view, lower the P/E ratio, the better it is for the investors, as there are chances of appreciation. And vice versa, i.e., higher the ratio, lesser are the chances of appreciation. Moreover, the risk element also increases. According to others, it is the other way round.
P/E ratio is a valuation ratio of a company's current share price compared to its per-share earnings. It is calculated as market value per share divided by earnings per share. For example, if a company's stock price is $ 100 and it has an EPS of $ 5, the P/E ratio is $ 100 divided by $ 5 that is 20.
EPS is can be taken for the full year, from the last few quarters or from the estimates of earnings expected in the next few quarters. Sometimes, P/E ratio is referred to as the multiple because it shows how much investors are willing to pay per rupee of earnings. In general, a high P/E ratio means high projected earnings in the future. However, the P/E ratio actually doesn't tell us a whole lot by itself. It's usually only useful to compare the P/E ratios of companies in the same industry, with the market in general, or against a company's own historical P/E ratios.
The higher the P/E ratio, the more you are paying for an estimated stream of earnings. Investors are usually willing to pay a higher P/E ratio for companies they judge will be growing faster than the norm even though they do not pay those earnings out in dividends but retain them to fund future growth. If that growth is realised, the price of the company's stock usually grows faster than the stock price of a company with slower growth.
However, if the estimated earnings are not realised or the stock market itself loses favour with the investor, the downside potential is greater as well. The risk is not just the ability of the company to make profits, but the investment risk in the higher price one paid relative to earnings. If a company goes from a P/E ratio of 50 to a P/E ratio of 25 and maintains earnings of $ 5 a share, your investment goes from a value of $ 250 per share to a value of $ 125 per share even though the company is still earning profits.
The P/E ratio is a commonly used way to value a company and to determine what the company's stock should be worth. It is simply a company's stock price divided by its earnings per share.
The P/E ratio gives an indication of how many times you are paying for a company's stock verse a company's earnings. It can be used to compare a company against other companies, or against a company's own historical P/E ratios. Generally a company with a high (large) P/E ratio is expensive as against a company with a lower P/E ratio, since with a high P/E ratio you are paying a larger multiple against the company's earnings.
Higher P/E ratio's are often associated with 'growth stocks', or companies that are growing faster than average. Investors believe that the company's earnings will be higher in the future. Usually, this yardstick is used to analyse whether a stock is undervalued, overvalued or trading at fair value.
