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Is negative price to earnings a bad sign for investors?

Publish Date: June 11, 2019

By: Sandhya Kannan, Head – Content

Anytime is a good time to start investing in the Indian stock market. There are several ratios to help you understand how your share market investments are faring. One such ratio is the price-to-earnings (PE) ratio.

Related : How to calculate earnings from the stock market

Calculating the PE ratio

To calculate the PE ratio, divide the price per share of a company by its earnings per share. The resulting figure tells you how much buyers are willing to pay for every rupee of earnings of the share. The lower the PE ratio, the better it is for investors.

Example: Say, the price per share of a company is Rs 150 and its yearly earnings per share is Rs 30. Here, the PE ratio = Rs 150/Rs 30 = 5. This means buyers are willing to pay up to five times the earnings per share.

Related : How to generate regular income from short-term investment

Significance of PE ratio

Say, a company has a negative PE ratio. This means it has been incurring losses. You might assume that investing in such an entity is not a good idea. But this is not always the case.

A consistent decline in the PE ratio over many years may be a bad sign. But you should also consider other factors like market trends and competition.

Example: A pharmaceutical company may be spending heavily on developing a drug to treat a chronic health condition. This results in a negative PE ratio. However, if the company’s research proves successful, it could lead to huge profits. This will eventually reflect in a positive PE ratio.

Related: How to earn profits in a bear market

Summing up

The PE ratio is useful for analysing the health of a company. Use it along with other analytical aids to get an overall picture of the share’s potential. If you need help with your trading decisions, open an account with Kotak Securities. You can then gain access to expert advice and have the best analytical tools at your fingertips.

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