If P/E ratios of a stock are high and the stock price might be overpriced. Then should we go for lower P/E ratios for better investment. The answer to this question is also NO and it depends on number of other factors.
To know this, lets revise P/E calculation for a while again
Example : price per share/ earnings per share = $4.20/ 30 cents = 14
i.e. if you pay $4.20 per share right now,you are paying 14 times 1 year earnings to get $4.20.It means it takes 14 years to get money back from 1 year earning investment.
- Utility companies have low Price to Earning ratio (P/E)
- Telecom companies have high Price to Earning ratio (P/E)Price to Earning ratio (P/E) doesn't predict the size,dividend,future earning.
- low Price to Earning ratio (P/E) is good
- high Price to Earning ratio (P/E) means high expectation
- Price to Earning ratio (P/E) > 16 don't buy
- Price to Earning ratio (P/E) > 20 = high growth,competitive advantage,rich valuation
- Price to Earning ratio (P/E) = 12-20 means fair value,stable industry
- Price to Earning ratio (P/E) < 12 low margin,commodity and undervalued finance
So, Price to Earning ratio (P/E) = 12-30
Normally, average P/E ratios varies industry wise. Industries with moderate potential growth tend to have lower P/E ratios whereas,industries with robust future potential tend to have higher P/E ratios.
So, while doing the P/E calculation, companies of same industry or different industry or company in same industry with different characteristics needs to be compared.
