Overview
Valuation ratios help investors assess whether a stock is overvalued, undervalued, or fairly priced by comparing its financial metrics to market benchmarks.
Key Valuation Ratios
*1. Price-to-Earnings (P/E) Ratio*
- Formula: Stock Price / Earnings Per Share (EPS)
- Indicates how much investors are paying for each dollar of earnings.
- High P/E: Growth potential but possibly overvalued.
- Low P/E: Undervalued or facing financial challenges.
*2. Price-to-Book (P/B) Ratio*
- Formula: Stock Price / Book Value Per Share
- Compares market value to company’s net asset value.
- P/B < 1: Stock is trading below book value (potential undervaluation).
- P/B > 1: Stock trades above book value (confidence in future performance).
*3. Price-to-Sales (P/S) Ratio*
- Formula: Market Cap / Total Revenue
- Evaluates valuation based on revenue rather than earnings.
- Useful for companies with volatile or negative earnings.
*4. Dividend Yield*
- Formula: Annual Dividend / Stock Price
- Measures income return on investment in dividend-paying stocks.
- Higher yield can indicate strong payouts but might signal financial instability.
*5. Earnings Yield*
- Formula: EPS / Stock Price
- Inverse of P/E ratio, useful for comparing against bond yields.
*6. Enterprise Value-to-EBITDA (EV/EBITDA)*
- Formula: Enterprise Value / Earnings Before Interest, Taxes, Depreciation & Amortization
- Useful for evaluating takeover targets and overall business health.
*7. Debt-to-Equity (D/E) Ratio*
- Formula: Total Liabilities / Shareholders' Equity
- Assesses company financial leverage and risk.
How to Use Valuation Ratios
- Compare against industry averages.
- Use multiple ratios for a complete valuation picture.
- Consider growth potential alongside valuation metrics.
Tools & Resources
- Stock screeners for ratio analysis.
- Financial news platforms for valuation insights.
- Portfolio tracking tools to monitor investment metrics.