How to Use the P/E ratio to value stocks
The P/E ratio is a basic metric used to determine the value of a company's stock. In a nutshell, it can tell you if a stock is 'cheap' or 'expensive'. In other words, are you getting a good value for what you are paying for?
How the P/E ratio is Calculated
How to Find the Price to earnings Ratio of a stock
For example:
Company A makes $1,000
Company A has issued 100 shares of stock
Company A stock is trading for $50 a share
The P/E is simply the earnings per share divided by the price per share.
So,
$1,000 (Earnings) / 100 (# of shares) = $10 per share.
Company A had $10 in profit for every share it has issued.
This is the Earnings part of the Price to Earnings Ratio
$50(The Price of each share) /$10 (The Earnings of Each Share) = 5
Company A would have a P/E of 5.
Additional Resources on the P/E ratio
News and advice on P/E ratios
- Price-Earnings Ratio - P/E Ratio
- Investopedia.com - The Investing Education Site. Includes the most comprehensive investing dictionary on the web as well as articles and tutorials on nearly any aspect of the market.
- P/E ratio - Wikipedia, the free encyclopedia
- P/E ratio From Wikipedia, the free encyclopedia
- P/E Ratio - A Quick and Dirty Way to Determine Relative Value
- The p/e ratio, short for price earnings ratio, was made famous by Benjamin Graham. The p/e ratio is a financial measurement of a company's current earnings per share, eps, compared to the price per share.
- Forbes Magazine
- Forbes Magazine is one of the most widely read business and finance publications in the world. They have a great track record of providing interesting and insightful analysis and advice.
They also have a fantastic Free Personal Investing Guide
When to use the P/E ratio
Using the P/E ratio to invest in stocks
Many Value investors choose to use the P/E ratio as a valuable tool for finding out if a stock is cheap. Many Growth investors believe that the P/E ratio is inaccurate and is not very useful. Which kind of investor are you?
Tips on Using the Price to Earnings Ratio
Remember these things when using the P/E ratio
- Compare the P/E ratio to other companies in the same industry. A P/E of 25 or even 35 is not necessarily out of line for some tech companies. However, many homebuilding companies have price to earnings ratios of 10 or less. You can not use P/E ratios to compare a home builder to Ebay.
- Compare the current P/E ratio with the historic P/E ratio. The Historic P/E of the S&P is generally considered to be in the high teens (16-18). Does the stock have a P/E that is higher or lower than it has had in the past.
- The Future P/E can be more useful than the present P/E. The future P/E is simply what analysts think the P/E value will be over the next 12 months. If this number is significantly higher or lower than the regular P/E than make sure you find out why.
The Little Book of Value Investing (Little Books. Big Profits)
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Advice on the P/E ratio
How does the P/E ratio help you
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