Most Commonly Used Comparative Ratios in Share Price Analysis

Price/Earnings Ratio (P/E). This ratio gives an indication of how expensive or cheap a stock is, by comparing stock earnings relative to the stock price. The P/E ratio takes the stock price and divides it by the last four quarters’ worth of earnings. A company stock currently trading at $10 a share with $1.00 of earnings per share (EPS), has a P/E of 10. High P/E suggests that investors are expecting higher earnings growth in the future compared to companies with a lower P/E. It is usually most useful to compare the P/E ratios of one company to other companies in the same industry, to the market in general or against the company’s own historical P/E.

This same ratio is sometimes known as price multiple or earnings multiple. because it shows how much investors are willing to pay per dollar of earnings. If a company were currently trading at a multiple (P/E) of 20, the interpretation is that an investor is willing to pay $20 for $1 of current earnings.

Price to Earnings Ratio (PE) = Market Price of a Common Share ÷ Earnings Per Share

Dividend Yield. A ratio of a company’s annual cash dividends divided by its current stock price expressed in the form of percentage. It shows how much a company pays out in dividends each year relative to its share price, or in other words, the return on investment. To get the expected annual cash dividend payment, take the next expected quarterly dividend payment and multiply that by four. For instance, if a $100 stock is expected to pay a $2.50 quarterly dividend next quarter, you just multiple $2.50 by 4 to get $10. and then divide this by $100 to get a dividend yield of 10%.

Dividend Yield = Annual Dividend per Common Share ÷ Market Price of a Common Share

Capital Appreciation.One of the two components of total return, capital appreciation is how much the underlying value of a security has increased. If you bought a stock at $10 and it has risen to $13, you have enjoyed a 30% return from the appreciation of the original capital you invested. Dividend yield is the other component of total return.

Relative Strength. Relative strength, also known as relative price strength, indicates the performance of a stock versus the performance of other stocks in the same industry. The rating system gives a numerical grade to the performance of a stock over a given period. Relative strength is really a momentum indicator calculated by dividing the price performance of a stock by the price performance of one of an appropriate index for the same time period. There numerous published indexes from which to choose. Part Three of this tutorial takes a closer look at market indices.

Volume. Volume refers to the number of shares in a given company traded on a particular day. Investors look at volume over a month or a year to come up with average daily volume. Market watchers will say a company has traded at a certain number of times the average daily volume, giving the investor a sense of how active the stock was on a certain day relative to previous days. When major news is announced, a stock can trade as much as 20 or 30 times its average daily volume, particularly if the average daily volume is very low.

The average number of shares traded gives an investor an idea of a stocks liquidity – how easy it is to buy and sell a particular stock. Highly liquid stocks trade easily in large batches with low transaction costs. Liquid stocks trade infrequently and large sales often cause the price to rise or fall dramatically.