Yahoo Finance Does Insurance Australia Group Limited’s (ASX:IAG) PE Ratio Warrant A Sell?
I am writing today to help inform people who are new to the stock market and want to better understand how you can grow your money by investing in Insurance Australia Group Limited (ASX:IAG).
Insurance Australia Group Limited (ASX:IAG) is currently trading at a trailing P/E of 19.8x, which is higher than the industry average of 19.2x. While IAG might seem like a stock to avoid or sell if you own it, it is important to understand the assumptions behind the P/E ratio before you make any investment decisions. Today, 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 Insurance Australia Group
Breaking down the Price-Earnings ratio
The P/E ratio is a popular ratio used in relative valuation since earnings power is a key 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.
P/E Calculation for IAG
Price-Earnings Ratio = Price per share ÷ Earnings per share
IAG Price-Earnings Ratio = A$8.65 ÷ A$0.438 = 19.8x
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. Our goal is to compare the stock’s P/E ratio to the average of companies that have similar attributes to IAG, such as company lifetime and products sold. One way of gathering a peer group is to use firms in the same industry, which is what I’ll do. At 19.8x, IAG’s P/E is higher than its industry peers (19.2x). This implies that investors are overvaluing each dollar of IAG’s earnings. Therefore, according to this analysis, IAG is an over-priced stock.
Assumptions to be aware of
However, before you rush out to sell your IAG shares, it is important to note that this conclusion is based on two key assumptions. Firstly, our peer group contains companies that are similar to IAG. If this isn’t the case, the difference in P/E could be due to other factors. For example, if you compared lower risk firms with IAG, then investors would naturally value it at a lower price since it is a riskier investment. The second assumption that must hold true is that the stocks we are comparing IAG to are fairly valued by the market. If this does not hold true, IAG’s lower P/E ratio may be because firms in our peer group are overvalued by the market.
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 IAG. 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 urge you to complete your research by taking a look at the following:
Future Outlook: What are well-informed industry analysts predicting for IAG’s future growth? Take a look at our free research report of analyst consensus for IAG’s outlook.
Past Track Record: Has IAG 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 IAG’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.
