| July 17
Does lower PE ratio means higher profitability?
Equity trading India is filled with
individuals who know the price of everything but value for nothing. PE ratio
helps us in understanding the value of the stock. You might find a wonderful
company but a good buy only makes sense if the price falls in the buying
So what is the PE ratio?
The PE ratio measures the relationship between a company’s stock price
and its earnings per share of the stock issued. You can easily calculate this
by dividing the current stock price by the Earnings per share. This ratio
signifies how much an investor is willing to pay for the particular stock per
unit of earnings. For example, if a stock is trading at a multiple of 10, the
interpretation is that the investor is willing to pay Rs. 10 for Re. 1 of
current earnings. It is one of the most widely used tools to date all across
Now let’s understand what does a high/low PE ratio mean in Equity Investments India ?
Talking generally, a high PE ratio conveys the high expectations the
investor has from the stock. The investor expects good growth out of it and the
investment is called growth-style investing. However, a higher PE ratio also
symbolizes that the investment is overvalued and you might run the risk of
On the other side investing in the low PE ratio companies, the investor
believes the company is undervalued and will profit as the stock rises up. Such
an investment style is called value investing. This doesn’t mean you should
always invest in companies with low PE ratio, such companies might actually
lack in real potential growth.
Which company (low PE or high PE) should an investor focus on depends on
a number of factors. Few of the factors are:
ratios differ by industry. Software companies will have a higher PE ratio
than that of the textile industry. This doesn’t signify anything when compared;
the companies must be compared amongst the relevant industry only.
may use a low PE ratio for investing in a company if a similar peer
company is trading at a higher PE ratio. You must keep in mind the peer
company should be exactly the same.
may also invest in a high PE ratio company provided the future earning
justifies the investment.