## When Stock Prices Drop, Investors Should Clearly Understand the P.E. Ratio

When the stock market declines and stock prices appear attractive, the question that makes investors hesitate is "Is this price really cheap?" "Should I buy now?" and "If I buy, when will I make a profit?"

The difficulty in making this investment decision comes from valuing stocks based on data and figures. Value investors (Value Investor) often refer to the P.E. Ratio, which is a popular indicator used to determine whether a stock is undervalued or overvalued. However, many people do not deeply understand what the P.E. Ratio is and how it can be used to inform investment decisions.

## What is the P.E. Ratio? The Meaning Investors Need to Know

**P.E. Ratio** stands for "Price to Earnings Ratio," a number indicating "if investors pay the current stock price, how many years it will take to recover their investment from the company's profits." Mathematically, this number is calculated by dividing the current stock price by the earnings per share (EPS) of the company.

The importance of the P.E. Ratio lies in its ability to provide a standard for comparing multiple stocks in the market. Regardless of how different each stock's price is, the P.E. Ratio can indicate relative valuation.

## How to Calculate the P.E. Ratio and the Importance of EPS

Calculating the P.E. Ratio is very simple: **P.E. = Stock Price ÷ EPS**

Both variables play crucial roles:

**Stock Price (Price)** refers to the current price investors pay to buy one share. If bought at a lower price, the P.E. will also be lower, meaning investors need less time to recoup their investment.

**Earnings Per Share (EPS - Earnings Per Share)** is calculated by dividing the company's net profit by the total number of shares outstanding. It indicates how much profit each share earns per year. A higher EPS means the company is more profitable. Even if the stock price is high, the P.E. Ratio can still be low because a high EPS (the denominator (EPS)) offsets the high price.

**Example:** An investor buys a stock at 5 baht, with an EPS of 0.5 baht. The P.E. Ratio is 10, meaning it will take 10 years to recover the initial investment of 5 baht (0.5 × 10), and the full return will be realized in the 10th year. After that, all profits are net gains.

**The lower the P.E. Ratio, the cheaper the stock and the faster the break-even point.**

## Forward P.E. vs Trailing P.E.: Which Data Should You Use for Investing?

Investors will see two types of P.E. Ratios in the market, each calculated differently and based on different data sources:

### Forward P.E. - Looking Forward

**Forward P.E.** uses the current stock price divided by the projected EPS for the next year. It helps investors see the company's potential profitability in the future. The advantage of this method is that it reflects expected growth and allows investors to buy shares before profits increase.

However, Forward P.E. has limitations. Companies often underestimate earnings to surpass targets when announcing results, leading to "fake estimates" that mislead investors. Additionally, external analysts' estimates may differ from the company's targets, causing confusion.

### Trailing P.E. - Based on Past Data

**Trailing P.E.** uses the current stock price divided by the actual EPS over the past 12 months. It is the most popular among investors because it is based on actual, realized data. It is easy and quick to calculate.

But it also has drawbacks. Past performance does not guarantee future results. If a company recently experienced significant events that caused stock prices to rise or fall sharply, the Trailing P.E. will reflect those changes slowly.

## Limitations of the P.E. Ratio That Investors Must Be Aware Of

A key point many investors overlook is that the P.E. Ratio is not a fixed number. EPS can change based on the company's performance, which in turn affects the P.E. Ratio.

**Scenario 1: Earnings Increase** Suppose an investor buys a stock at 5 baht with an EPS of 0.5 baht (P.E. = 10), expecting to recover the investment in 10 years. During that time, the company opens new branches and expands exports, increasing EPS to 1 baht. The P.E. ratio drops to 5, meaning the break-even point is now 5 years instead of 10. The investor holding this stock benefits.

**Scenario 2: Earnings Decrease** If the company faces issues such as trade restrictions or legal problems reducing earnings to 0.25 baht, the P.E. ratio will rise to 20. It will take 20 years to recover the investment.

This risk shows that **relying solely on the P.E. Ratio is insufficient**. Investors should also study profit quality, the company's future prospects, and factors that may impact EPS.

## No Single Investment Tool Is Sufficient

Successful investors often do not rely on just one tool. In volatile markets, they may use supplementary analysis techniques. But when a good stock opportunity arises, it should not be missed.

The P.E. Ratio is a useful tool for valuing stocks and timing investments more accurately. However, it is only part of the decision-making process. Combining P.E. Ratio analysis with fundamental analysis of the company's potential growth and other factors is a wise approach, helping you confidently select undervalued, quality stocks for your portfolio.