In This Article:
Kreditbanken A/S (CPSE:KRE) trades with a trailing P/E of 7.2x, which is lower than the industry average of 8.3x. While KRE might seem like an attractive stock to buy, it is important to understand the assumptions behind the P/E ratio before you make any investment decisions. Today, I will deconstruct the P/E ratio and highlight what you need to be careful of when using the P/E ratio. View our latest analysis for Kreditbanken
Demystifying the P/E ratio
P/E is often used for relative valuation since earnings power is a chief driver of investment value. It compares a stock’s price per share to the stock’s earnings per share. A more intuitive way of understanding the P/E ratio is to think of it as how much investors are paying for each dollar of the company’s earnings.
P/E Calculation for KRE
Price-Earnings Ratio = Price per share ÷ Earnings per share
KRE Price-Earnings Ratio = DKK2580 ÷ DKK358.801 = 7.2x
The P/E ratio isn’t a metric you view in isolation and only becomes useful when you compare it against other similar companies. We want to compare the stock’s P/E ratio to the average of companies that have similar characteristics as KRE, such as size and country of operation. One way of gathering a peer group is to use firms in the same industry, which is what I’ll do. Since KRE’s P/E of 7.2x is lower than its industry peers (8.3x), it means that investors are paying less than they should for each dollar of KRE’s earnings. Therefore, according to this analysis, KRE is an under-priced stock.
Assumptions to be aware of
While our conclusion might prompt you to buy KRE immediately, there are two important assumptions you should be aware of. Firstly, our peer group contains companies that are similar to KRE. If this isn’t the case, the difference in P/E could be due to other factors. For example, if you are comparing lower risk firms with KRE, then its P/E would naturally be lower than its peers, as investors would value those with lower risk at a higher price. The second assumption that must hold true is that the stocks we are comparing KRE to are fairly valued by the market. If this is violated, KRE’s P/E may be lower than its peers as they are actually overvalued by investors.
What this means for you:
If your personal research into the stock confirms what the P/E ratio is telling you, it might be a good time to add more of KRE to your portfolio. But keep in mind that the usefulness of relative valuation depends on whether you are comfortable with making the assumptions I mentioned above. Remember that basing your investment decision off one metric alone is certainly not sufficient. There are many things I have not taken into account in this article and the PE ratio is very one-dimensional. If you have not done so already, I highly recommend you to complete your research by taking a look at the following: