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How to find undervalued stocks?
Buying stocks when they’re undervalued, and sell it later at higher price – sounds just about perfect, right?
But – how do you know if a stock is “expensive” or “cheap” to buy at the moment 🤷♂️? Oh, wait! Enter the P/E ratio!
The P/E Basics: What and Why?
Simply put, the P/E ratio tells you the price you’re paying for every dollar of a company’s earnings. It’s calculated by dividing the stock price by its earnings per share (EPS). A P/E of 20, for instance, means investors are willing to pay $20 for every $1 of earnings!
But why should it matter? The P/E ratio acts as a magnifying glass 🧐, helping to highlight the market’s growth expectations for a particular company.
High and Low P/E Ratios
⬆️Low P/E
Typically, a P/E below 15 is considered on the lower end. This can suggest that the stock is undervalued, potentially offering a buying opportunity. However, it might also indicate skepticism about the company’s future prospects or potential industry-wide challenges.
⬇️High P/E
Generally, a P/E above 20 is considered on the higher side. You’re paying top dollar because investors are foreseeing the company’s next big hit. Or, it’s just overly hyped.
Bear in mind that different sectors have their own P/E norms. High-growth sectors like tech usually sport has higher P/E ratios compared to the more stable, predictable sectors like utilities.
However, the P/E ratio isn’t without its flaws.
For one, a low P/E might be due to underlying company issues or sector-wide challenges. Also, it relies on earnings, which can be manipulated with accounting techniques. Sometimes what’s on paper (or a balance sheet) doesn’t translate in real life! 👀
And that’s only one way to find undervalued stocks! More methods on its way coming to ya’ll!
Other than spotting a good stock, using a great platform definitely helps along with the investing journey! I use Interactive Brokers myself, so if you are just started with IBKR, or wanted to explore more about it, I invite you to dive into this IBKR beginner guide with me! See you over there 🙂
Word of the Week: P/E Ratio
Definition: The Price-to-Earnings (P/E) ratio is a valuation metric that gauges the relative cost of a stock based on its earnings. It helps investors determine how much they’re paying for each dollar of earnings a company generates.
Let’s break this down with an example.
Ziet Company: Currently trading at $100 per share.
Last Year’s Earnings: Ziet Company reported earnings (or net income) of $1 million.
Total Shares Outstanding: Let’s assume the company has 50,000 shares available in the market.
Earnings Per Share (EPS): The EPS can be determined by dividing the company’s total earnings by its total shares outstanding. In this case:
EPS = $1,000,000 ÷ 50,000 = $20
Now, to find the P/E ratio, divide the stock’s current price by its EPS:
P/E Ratio = Stock Price ÷ EPS
P/E Ratio = $100 ÷ $20 = 5
Thus, Ziet Company’s P/E ratio is 5. This means that for every dollar of earnings that Ziet Company generates, investors are currently willing to pay $5.
Key Economic Dates:
- 1st November: ADP Nonfarm Employment Change, ISM Manufacturing PMI (Oct), JOLTs Job Openings (Sep), Fed Interest Rate Decision
- 2nd November: Initial Jobless Claims
- 3rd November: Unemployment Rate (Oct), S&P Global Services PMI (Oct), ISM Non-Manufacturing PMI (Oct)
What I’ve been reading:
Here are the top stories that caught my eye:
- U.S. GDP grew at a 4.9%
- Ex-Chinese premier Li Keqiang dies of heart attack at 68
- Apple announces new M3 chips
You’re all caught up!
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Cheers,
Ziet
