Definition

The Median Price to Earnings (PE) Ratio is a valuation metric that represents the middle value of the price-to-earnings ratios of a group of companies or a specific industry. It is used to assess whether a stock or a market segment is overvalued or undervalued compared to its peers.

Formula

Median PE Ratio = Median of (Market Price per Share / Earnings per Share)

How to use the valuation method

To use the Median PE Ratio, compare a company's PE ratio to the median PE ratio of its industry or a relevant peer group. If a company's PE ratio is below the median, it may be undervalued, whereas if it is above the median, it may be overvalued. This comparison helps investors make informed decisions about buying or selling stocks.

Which industries it work best in

The Median PE Ratio works best in industries with stable earnings and mature companies, such as utilities and consumer staples. These industries typically have less volatility in earnings, making the PE ratio a more reliable indicator of value.

Which industries it does not apply to and why

The Median PE Ratio is less applicable to industries with high growth potential or volatile earnings, such as technology and biotech. In these sectors, earnings can be inconsistent, and companies may reinvest profits for growth, leading to skewed PE ratios that do not accurately reflect value.

Summary

The Median PE Ratio is a useful tool for evaluating whether a stock is overvalued or undervalued relative to its peers. It is most effective in stable industries with predictable earnings but may not be suitable for high-growth or volatile sectors where earnings are less consistent.