Yahoo Finance Should You Be Tempted To Sell Rathbone Brothers Plc (LON:RAT) At Its Current PE Ratio?
The content of this article will benefit those of you who are starting to educate yourself about investing in the stock market and want to begin learning the link between Rathbone Brothers Plc (LON:RAT)’s fundamentals and stock market performance.
Rathbone Brothers Plc (LON:RAT) trades with a trailing P/E of 28.4x, which is higher than the industry average of 15.5x. While this makes RAT appear like a stock to avoid or sell if you own it, you might change your mind after I explain the assumptions behind the P/E ratio. In this article, I will deconstruct the P/E ratio and highlight what you need to be careful of when using the P/E ratio. Check out our latest analysis for Rathbone Brothers
Demystifying the P/E ratio
P/E is a popular ratio used for 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 RAT
Price-Earnings Ratio = Price per share ÷ Earnings per share
RAT Price-Earnings Ratio = £26.32 ÷ £0.927 = 28.4x
On its own, the P/E ratio doesn’t tell you much; however, it becomes extremely useful when you compare it with other similar companies. We preferably want to compare the stock’s P/E ratio to the average of companies that have similar features to RAT, such as capital structure and profitability. One way of gathering a peer group is to use firms in the same industry, which is what I’ll do. At 28.4x, RAT’s P/E is higher than its industry peers (15.5x). This implies that investors are overvaluing each dollar of RAT’s earnings. Therefore, according to this analysis, RAT is an over-priced stock.
Assumptions to watch out for
Before you jump to the conclusion that RAT should be banished from your portfolio, it is important to realise that our conclusion rests on two assertions. The first is that our “similar companies” are actually similar to RAT, or else the difference in P/E might be a result of other factors. For example, if you are comparing lower risk firms with RAT, 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 RAT to are fairly valued by the market. If this is violated, RAT’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 rebalance your portfolio and reduce your holdings in RAT. 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:
Future Outlook: What are well-informed industry analysts predicting for RAT’s future growth? Take a look at our free research report of analyst consensus for RAT’s outlook.
Past Track Record: Has RAT been consistently performing well irrespective of the ups and downs in the market? Go into more detail in the past performance analysis and take a look at the free visual representations of RAT’s historicals for more clarity.
Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.
To help readers see pass the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned.
