P/E Ratio Explained: What It Tells You About a Stock (and What It Doesn't)

The price-to-earnings ratio, or P/E, is the most quoted valuation number in investing. It tells you how much investors are paying for each unit of a company’s profit. Used well, it is a quick way to compare companies. Used on its own, it can badly mislead. This guide explains how P/E works, how it links to earnings per share (EPS) and market cap, and where it breaks down.

How the P/E ratio is calculated

P/E = share price ÷ earnings per share (EPS)

If a stock trades at $60 and the company earned $3 per share over the past year, its P/E is 20. In plain terms, investors are paying $20 for every $1 of annual profit.

You get the same answer at company level: P/E = market capitalisation ÷ net profit. A company worth $60 billion that earned $3 billion also has a P/E of 20.

Flip the ratio and you get the earnings yield (EPS ÷ price). A P/E of 20 equals an earnings yield of 5%, which some investors compare with bond yields.

EPS and market cap in one minute

• EPS is net profit available to ordinary shareholders divided by the number of shares. “Diluted” EPS also counts shares that could be created from options and convertible securities.
• Market cap is the share price multiplied by the number of shares outstanding. It is the market’s price tag for the whole company.

Because P/E links the two, a company’s market cap can rise either because profits grew (EPS up) or because investors are willing to pay more for the same profits (P/E up). Separating those two drivers is most of what valuation analysis is about.

Trailing vs forward P/E

• Trailing P/E uses the last 12 months of reported earnings. It is based on real numbers but looks backwards.
• Forward P/E uses analysts’ estimates for the next 12 months. It looks ahead but depends on forecasts that may turn out wrong.

A company expected to grow quickly will have a forward P/E well below its trailing P/E. Always check which one a website or report is quoting.

What is a “good” P/E ratio?

There is no single good number. A P/E only means something in comparison with:

1. The company’s own history. Is it cheaper or dearer than it usually trades?
2. Its peers. Fast-growing software firms often trade on P/Es of 30 or more; banks, energy producers and carmakers often trade in single digits or low teens.
3. The overall market. Over the long run the S&P 500’s trailing P/E has averaged roughly the mid-teens, although it has spent long stretches well above and below that.

A high P/E usually means investors expect strong growth. A low P/E can mean a bargain, or that investors expect profits to fall.

Live: P/E of the large caps we track

Here are trailing P/Es for the large-cap stocks on our Stocks page, from lowest to highest. Notice how the ranking roughly follows sector and expected growth. Tap a row to see the chart.

Updated 13:43 UTC · Trailing 12-month P/E from market-data feeds; earnings yield = 1 ÷ P/E

When P/E misleads

• One-off items. A large asset sale can inflate profit and make the P/E look temporarily low; a write-down can do the opposite.
• Cyclical companies. Steelmakers, chipmakers and commodity producers often look cheapest at the top of the cycle, when profits are at their peak and about to fall.
• Losses. If EPS is negative, the P/E is not meaningful and most data providers show a dash.
• Different accounting. Companies in different countries or industries may report profit differently, and “adjusted” EPS can exclude costs that matter.

Two related measures

PEG ratio

PEG = P/E ÷ expected annual EPS growth rate (%). A stock on a P/E of 30 with 30% expected growth has a PEG of 1; the same P/E with 10% growth gives a PEG of 3. A common rule of thumb treats a PEG near 1 as reasonable, but it depends heavily on how reliable the growth forecast is.

CAPE (Shiller P/E)

The cyclically adjusted P/E divides the price by the average of the last ten years of inflation-adjusted earnings. It smooths out booms and recessions and is mostly used to judge whether a whole market looks expensive by historical standards, not to pick individual stocks.

Frequently asked questions

Is a low P/E always a good sign?

No. A low P/E can signal that the market expects earnings to shrink, that the business faces a threat, or that its profits are unusually high right now. Look at why a stock is cheap before treating it as a bargain.

Why is there no P/E for some stocks?

Companies with losses over the past year have negative EPS, so the ratio is not meaningful. Newly listed companies may also lack a full year of reported earnings.

Which is better, trailing or forward P/E?

Use both. Trailing P/E is based on facts; forward P/E shows what the market expects. A big gap between them is itself useful information. Terms like EPS, market cap and dividend yield are also explained in our financial glossary.