PE ratio net, him, question, relative, industry

mkytz15

An interviewer asked me what PE ratio is, i was able to give the formula: MPS/EPS
and a simple reply: " it means how much investor are willing to pay for the company's net earning per share"

The next question he posted " So is high PE ratio better or low PE ratio better because i have heard that low PE could be an indication the stock is cheap relative to the industry average?"

My reply: ----I just stared at him ...lol

Can anyone help to solve this question?

Swanand

or a relative basis a low P/e is better. it means the stock is undervalued in relation to similar companies in the industry.

llxx

but a low PE could also mean the company is poor investment, hence the lower stock price so the interviewer was most likely trying to pull a CFA trick by leading to unclear answer that requires you to really know what the ratio and other pert info is telling you.

luda002

A higher P/E suggests a better company, but not necessarily a better investment. The investment can only be assessed relatively, using other info such as expected growth, peer comparisons, etc, etc. From an investment perspective a lower or higher P/E than the average tells us nothing in isolation.

random_walker47

answer is 'go f*** yourself'

I would've said no because you can't make an investment based on one ratio alone. You will get screwed. Relative valuation requires you to value several ratios in tandem and make a decision based on that... (something along these lines...)

redskins44

Well, using a little bit of intuition, low P/E is either because price is low or earnings is high....both good....thus you would want to buy. A naive question deserves a naive answer.

However, tying the P/E ratio to expected growth is really what needs to be done to answer the question, and probably what the interviewer wants you to do. Every P/E implies a growth rate. Low P/E could imply low expected growth which could be good or bad depending on your investment objectives. The easiest way to see this is through the growing annuity (gordon growth) equation:

P = E / (r-g)

I don't like PEG....it has its own flaws....but analyzed together with P/E could provide additional, useful information. Ratios are just tools, naive tools. Naive reliance on ratios will lead to failure. That is why people hire analysts anyway, to analyze this information and draw better conclusions than the ratio provides in isolation.

iteracom

Thank you all, now I know how to deal with question like tis

brainsX

Low P/E ratio = Value stocks

High P/E ratio = Growth stocks



Edited 1 time(s). Last edit at Thursday, June 23, 2011 at 11:51PM by faraz70s.