Price to earning (P/E) ratio & what it means?

If there is one number that people look at than more any other number, it is the “Price to Earning Ratio (P/E)”. The P/E is a ratio that investors throw around with confidence as if it told the complete story. Of course, it doesn’t tell the whole story (if it did, we wouldn’t need all the other numbers.)

The P/E looks at the relationship between the stock price and the company’s earnings. The P/E is the most popular stock analysis ratio, although it is not the only one you should consider.

You calculate the P/E by taking the share price and dividing it by the company’s EPS (Earnings Per Share that we saw above)

P/E = Stock Price / EPS

For example: A company with a share price of Rs.40 and an EPS of 8 would have a P/E of: (40 / 8) = 5
 

What does P/E tell you?

Some investors read a high P/E as an “overpriced stock”.

However, it can also indicate the market has high hopes for this stock’s future and has bid up the price.

Conversely, a low P/E may indicate a “vote of no confidence” by the market or it could mean that the market has just overlooked the stock. Many investors made their fortunes spotting these overlooked but fundamentally strong stocks before the rest of the market discovered their true worth.

In conclusion, the P/E tells you what the market thinks of a stock. It tells you whether the market likes or dislikes the stock. If things are vague and unclear to you, do not worry. The next ratio will make everything you read till now make sense..

Next - PEG ratio & what it means.. >>


<< Previous - Earnings per share (EPS) ratio..

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Table Of Contents

  1. What are stocks?
  2. Why do companies issue stocks?
  3. What causes stock prices to change?
  4. What are the Sensex and the Nifty?
  5. 3 important things that every investor MUST remember!!
  6. How to decide which stocks to buy?
  7. Basics of fundamental analysis!
  8. Earnings per share (EPS) ratio and what it means?
  9. Price to earnings (P/E) ratio and what it means?
  10. PEG ratio and what it means?
  11. Inflation and how it silently eats your money!
  12. Brokerage and taxation…