I am writing today to help inform people who are new to the stock market and want to learn about the link between company’s fundamentals and stock market performance.

Halcyon Agri Corporation Limited (SGX:5VJ) is currently trading at a trailing P/E of 28.5, which is higher than the industry average of 12.1. While this might not seem positive, it is important to understand the assumptions behind the P/E ratio before you make any investment decisions. Today, I will break down what the P/E ratio is, how to interpret it and what to watch out for.

Check out our latest analysis for Halcyon Agri

Breaking down the Price-Earnings ratio

The P/E ratio is one of many ratios used in relative valuation. By comparing a stock’s price per share to its earnings per share, we are able to see how much investors are paying for each dollar of the company’s earnings.

P/E Calculation for 5VJ

Price-Earnings Ratio = Price per share ÷ Earnings per share

5VJ Price-Earnings Ratio = $0.36 ÷ $0.0128 = 28.5x

The P/E ratio itself doesn’t tell you a lot; however, it becomes very insightful when you compare it with other similar companies. We want to compare the stock’s P/E ratio to the average of companies that have similar characteristics as 5VJ, such as size and country of operation. A common peer group is companies that exist in the same industry, which is what I use. Since 5VJ’s P/E of 28.5 is higher than its industry peers (12.1), it means that investors are paying more for each dollar of 5VJ’s earnings. This multiple is a median of profitable companies of 12 Commercial Services companies in SG including Chasen Holdings, Luxking Group Holdings and CITIC Envirotech. You could also say that the market is suggesting that 5VJ is a stronger business than the average comparable company.

Assumptions to be aware of

However, you should be aware that this analysis makes certain assumptions. Firstly, that our peer group contains companies that are similar to 5VJ. If this isn’t the case, the difference in P/E could be due to other factors. For example, if Halcyon Agri Corporation Limited is growing faster than its peers, then it would deserve a higher P/E ratio. Of course, it is possible that the stocks we are comparing with 5VJ are not fairly valued. Just because it is trading on a higher P/E ratio than its peers does not mean it must be overvalued. After all, the peer group could be undervalued.

What this means for you:

Since you may have already conducted your due diligence on 5VJ, the overvaluation of the stock may mean it is a good time to reduce your current holdings. But at the end of the day, keep in mind that relative valuation relies heavily on critical assumptions I’ve outlined 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: