The P/E Ratio

The P/E ratio has been seriously misunderstood and misused. The P/E ratio is not a valid measure of intrinsic value. However, the P/E ratio is useful because the ratio implies an earnings growth rate.

If the implied earnings growth rate is significantly less than one believes the company will achieve, it makes sense to invest in the security, if every other item on the investing checklist is checked, even if its P/E ratio is high and many others shy away from it.

When the implied earnings growth rate is much higher than even bullish analysts believe, caution is warranted, despite the recent rapid price increases.