What is the best PE ratio of a stock?
While the answer is not a fixed number, investors might consider PE within the range 10–30, with an understanding of industry trends and future earnings potential.
Read ahead to unlock the list of the top stocks with low P/E ratios, how to calculate PE ratios, how to use them in investing, strategies, and much more.
How to calculate low PE ratios?
Calculating a low PE ratio involves understanding how price and earnings interact within the market and sector trends, while helping to find undervalued stocks.
|
Step–1 |
Start with current valuation |
Note the stock’s latest traded price. This reflects the market value of the company. |
|
Step–2 |
Calculate EPS |
Divide company’s net profit by its total outstanding shares. EPS = Net Profit ÷ Total Outstanding shares |
|
Step–3 |
Apply PE formula |
Divide the stock’s market price by the EPS to arrive at the PE ratio. |
|
Step–4 |
Position within the sector |
A PE appears “low” only when viewed against industry benchmarks and historical ranges. |
|
Step–5 |
Analyse financial health |
Check the company's revenue growth, balance sheet strength, and earnings quality to ensure the low PE reflects opportunity. |
How is the PE ratio used while investing in stocks?
The PE ratio serves as a valuation lens that helps investors understand whether a stock price is overvalued, undervalued, or fairly valued.
|
Undervalued |
Overvalued |
Fairly priced |
|
The undervalued stocks have a low PE ratio, compared to peers and historical averages. |
The overvalued stocks have a high PE ratio, compared to peers and historical averages. |
The fairly priced stocks have its PE ratio aligned with industry averages, reflecting balanced pricing. |
Why invest in low PE ratio stocks?
Low PE ratio stocks offer value where the market has not fully priced in future potential.
- Undervalued opportunities: A low PE ratio suggests that the stock is priced below its earnings capabilities, which offers scope for re-rating when the fundamentals gain recognition.
- Margin of safety: The lower valuations provide a buffer against downside risk, as the price already reflects conservative expectations.
- Value investing approach: These stocks align with value strategies, where the investors focus on buying fundamentally sound companies at discounted valuations.
- Higher earnings yield: A low PE ratio implies a higher earnings yield, which makes such stocks comparatively attractive against other income-generating assets.
Strategies for Identifying Low PE Ratio Stocks
You might consider the following strategies for identifying stocks with a low P/E ratio:
- Use stock screeners: Investors usually begin with stock screeners to filter companies trading at lower PE ratios, say with a range of 15 to 25. This narrows down the search to stocks that appear attractively valued at first glance.
- Analyse company financial statements: Analysing the financial statements, such as the balance sheet and income statement, further helps in confirming whether the low PE is backed by consistent earnings and a stable business.
- Look for undervalued stocks: Investors might then assess whether the stock is truly undervalued by comparing its price with its earnings, business quality, and long-term prospects.
- Consider index funds or ETFs: For more exposure, investors might also look at index funds or ETFs that include low PE stocks, which offer diversification as well as stable, lower-valuation companies.
Features of Low PE Ratio Stocks
The following features help investors understand why certain companies fall into the category of top stocks with low PE ratio:
- Undervaluation/value stocks: They are seen as bargains because the stock price is low compared to the earnings power, which makes them popular for value investing.
- High dividend yields: Due to stable cash flows and limited high-return investment opportunities, these companies frequently distribute a larger portion of profits to shareholders as dividends.
- Mature business model: These companies usually operate in established, slower-growth industries, such as public sector undertakings (PSUs), traditional manufacturing, or commodities.
- Lower downside risk: A low P/E ratio acts as a “margin of safety”, protecting against sharp price drops during market volatility.
