Evaluate Stock by PE Ratio

What is PE Ratio

PE Ratio stand for Price / Earning Ratio

Eg. Airasia current price is RM 1.21; on last financial year, they report a RM 0.224 as the Earning Per Share (EPS)

PE ratio for current price will be 1.21 / 0.224 = 5.4

How can we use PE ratio to evaluate the company?

For all company that making profit, they have the PE ratio. (Again it is come back to your strategy - long term or short term investment.)

Another way of looking at PE ratio is the Return of Investment (ROI). Let say Airasia make a profit of 22.4 sen per year and the current price is RM 1.20. Your ROI on investing this share in this price is
0.20 / 1.2 = 18.67% p.a

Of course, PE ratio is based on last year financial performance. Most of the company will annouce Financial Statement every Quarter. You can based on the latest financial status and calculate on the PE ratio.  You can also look for past few years.

For Eg.

Glomac

The EPS for this share is very consistent. Based on current Financial Report; EPS for 3rd Q in year 09/10 is 9.86sens From calculation, we expect EPS to be 13.15sens.

Current Price is RM 1.25; that means the PE ratio is 9.5 (Expected)

If we based on last year performance; the PE ratio is 10.9 (As publish)

And your can calculate your ROI based on the current price. You will decide whether the ROI is good enough or not.

Of course, we have to evaluate the stock based on their business nature. It may not wise for us to compare PE ratio for Glomac and Public Bank. The movement of the price is different based on the nature of the business.

It will be more proper for us to evaluate Public Bank (11) vs Maybank (70) vs CIMB (17). or Glomac (10) vs UEM land (40) vs Gamuda (30).

This shows you which stock is more worth to buy.

Why not just based on current Price?

For stock, current price might not mean the real value.

Maybank current price RM 7.50 ; PE ratio is 70 ; ROI = 1.43%

Public Bank current price RM 11.7 ; PE ratio is 11 ; ROI = 9.09%

Can you tell me which stock is more worth to buy? Maybank or Public bank is over valued?

HISTORY

Rapco Holding in 1997 price went up to RM 140.50 per share. The highest PE ratio goes up to 370!!!

If you had know about PE ratio, will u pick up this stock? which your ROI is less then 1%

In 2001, the  price is Rm 7.10; Now Rapco already delisted from second board.

PE ratio is a very important index; it will be useful even your strategy is for short term investment. You can evaluate the risk taken if you want to invest this stock as a short term investment.

Note:

Besides PE ratio, PB ratio is also a very important index. We will share about PB ratio in next article.