This article is intended for those of you who are at the beginning of your investing journey and want to learn about the link between company’s fundamentals and stock market performance.
NBT Bancorp Inc (NASDAQ:NBTB) is trading with a trailing P/E of 17.8, which is close to the industry average of 17.8. Though this might seem to be a negative, you might change your mind after I explain the assumptions behind the P/E ratio. Today, I will deconstruct the P/E ratio and highlight what you need to be careful of when using the P/E ratio.
Breaking down the P/E ratio
P/E is often used for relative valuation since earnings power is a chief driver of investment value. 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.
Price-Earnings Ratio = Price per share ÷ Earnings per share
P/E Calculation for NBTB
Price per share = $38.7
Earnings per share = $2.168
∴ Price-Earnings Ratio = $38.7 ÷ $2.168 = 17.8x
The P/E ratio itself doesn’t tell you a lot; however, it becomes very insightful when you compare it with other similar companies. Ideally, we want to compare the stock’s P/E ratio to the average of companies that have similar characteristics as NBTB, such as size and country of operation. A common peer group is companies that exist in the same industry, which is what I use below. Since similar companies should technically have similar P/E ratios, we can very quickly come to some conclusions about the stock if the ratios differ.
NBT Bancorp Inc (NASDAQ:NBTB) trades on a trailing P/E of 17.8. This isn’t too far from the industry average (which is 17.8). This multiple is a median of profitable companies of 25 Banks companies in US including Great Basin Financial, CIB Marine Bancshares and Citizens Commerce Bancshares. You can think of it like this: the market is suggesting that NBTB similar prospects to its peers in the same industry.
A few caveats
However, you should be aware that this analysis makes certain assumptions. Firstly, that our peer group contains companies that are similar to NBTB. If this isn’t the case, the difference in P/E could be due to other factors. For example, if NBT Bancorp Inc 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 NBTB 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:
You may have already conducted fundamental analysis on the stock as a shareholder, so its current overvaluation could signal a potential selling opportunity to reduce your exposure to NBTB. Now that you understand the ins and outs of the PE metric, you should know to bear in mind its limitations before you make an investment decision. 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 NBTB’s future growth? Take a look at our free research report of analyst consensus for NBTB’s outlook.
- Past Track Record: Has NBTB 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 NBTB’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 past 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. For errors that warrant correction please contact the editor at firstname.lastname@example.org.