Book review: One Up on Wall Street by Peter Lynch (P/E ratio)

I have been reading Peter Lynch's One Up on Wall Street. It is a very interesting and down to earth book on investment.

Today I read that price to earning ratio (p/e) can be thought of as the number of years it will take the company to earn back the amount of your initial investment, assuming that the company's earnings stay constant. Eg, if P/E is 10, this means the original investment will be earned back in ten years.

Since different industries and companies with different growth rates have different p/e ratio ranges, it is not meaningful to compare across the board, let alone to buy any and all stocks on the basis of low p/e ratios alone. Instead, it is more meaningful to compare the P/E ratio of the company with its peers to see if it is high, low or average compared to the industry. Also, it is more meaningful to compare the P/E ratio of the company with its historical values to get a sense of its normal values, to see if it is in line with what others have paid for the earnings in the past.


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