What is P/E ratio?

• Price/Earnings or P/E ratio is a valuation metric for companies.
• It helps us understand the value we pay for each rupee of profits made by the company.

• All things being equal, lower P/E is preferred.

What determines P/E ratio?

P/E ratios varies based on sector, growth rates, and return ratios of a company.

• Sector - Safe sectors such as FMCG and IT command higher valuation vs cyclical sectors such as metals or energy.

• Growth - Within a sector, companies with higher growth rate command higher P/E.

• Return % - Within a sector, companies with higher ROE/ROCE have higher valuation or P/E ratio.

What is P/E for mutual funds?

Just like stocks, mutual funds also have P/E ratios.

P/E ratio for mutual funds is the weighted average P/E for the underlying stocks in its portfolio.

Reading P/E for Mutual funds

P/E for mutual funds indicate the characterstics of underlying portfolio.

High P/E indicates a higher proportion of defensive sectors as well as high growth and high quality companies.

Low P/E indicates a focus on value investment approach and comprises of out-of-favour stocks and sectors.

Fund selection based on P/E

Funds should be selected based on multiple parameters and P/E should not be looked in isolation. However, as a thumb rule:

• Funds with higher P/E are preferred during expansionary and low interest rate environments.
• Funds with lower P/E are preferred during contractionary and higher interest rate environments.

DISCLAIMER: This blog is solely for educational purposes and not to offer any investment advice. Please do your own research or consult a financial advisor before making any investment decisions.