The P/E Ratio is a commonly used metric in stock market to evaluate the relative value of a company’s stock. It is calculated by dividing a company’s current stock price by its EPS (Earnings Per Share). The P/E ratio is used by investors to compare the relative value of a stock to other stocks in the same industry or to the overall market.
In the Indian stock market, there are several types of P/E ratios that are used, including:
Trailing P/E: This ratio is based on the company’s earnings over the past 12 months. It is calculated by dividing the current stock price by the last four quarters’ EPS. For example, if a company listed on NSE has a current stock price of Rs. 100 and its EPS for the past 12 months was Rs. 10, the trailing P/E ratio for the company would be 10.
Forward P/E: This ratio is based on the company’s projected earnings for the next 12 months. It is calculated by dividing the current stock price by the estimated EPS for the next 12 months. For example, if a company listed on NSE has a current stock price of Rs. 100 and its estimated EPS for the next 12 months is Rs. 15, the forward P/E ratio for the company would be 6.6.
Cyclically adjusted P/E (CAPE): This ratio is based on the company’s average earnings over the past 10 years. It takes into account the economic cycle and is considered to be more accurate during bear markets.
PEG Ratio: This ratio is used to measure a stock’s potential for growth by comparing its P/E ratio to its growth rate. It is calculated by dividing the P/E ratio by the company’s growth rate. For example, if a company’s P/E ratio is 20 and its growth rate is 10%, the PEG ratio would be 2.
It’s important to note that P/E ratio is not only a metric, it should be used in combination with other financial metrics such as debt-to-equity ratio, return on equity, and cash flow to get a complete picture of a company’s financial health. Additionally, P/E ratio can vary greatly across industries and sectors in the Indian stock market, so it’s important to compare a company’s P/E ratio to the industry average.
Formula:
P/E ratio = Stock Price / Earnings per Share (EPS)
Where:
- Stock Price is the current market price of a single share of the stock.
- Earnings per Share (EPS) is the company’s net income divided by the number of outstanding shares of stock.
For example, let’s say a company XYZ is listed on the NSE and its current stock price is Rs.100 and its EPS for the past 12 months is Rs.10. To calculate the trailing P/E ratio for XYZ, you would use the following formula:
P/E ratio = Rs.100 / Rs.10 = 10
Similarly, If the company XYZ’s estimated EPS for the next 12 months is Rs.15, then to calculate the forward P/E ratio, you would use the following formula:
P/E ratio = Rs.100 / Rs.15 = 6.6