To the annoyance of some shareholders, PulteGroup (NYSE:PHM) shares are down a considerable 39% in the last month. Even longer term holders have taken a real hit with the stock declining 8.0% in the last year.
All else being equal, a share price drop should make a stock more attractive to potential investors. While the market sentiment towards a stock is very changeable, in the long run, the share price will tend to move in the same direction as earnings per share. So, on certain occasions, long term focussed investors try to take advantage of pessimistic expectations to buy shares at a better price. Perhaps the simplest way to get a read on investors' expectations of a business is to look at its Price to Earnings Ratio (PE Ratio). Investors have optimistic expectations of companies with higher P/E ratios, compared to companies with lower P/E ratios.
How Does PulteGroup's P/E Ratio Compare To Its Peers?
PulteGroup's P/E of 7.01 indicates relatively low sentiment towards the stock. The image below shows that PulteGroup has a lower P/E than the average (8.1) P/E for companies in the consumer durables industry.
PulteGroup's P/E tells us that market participants think it will not fare as well as its peers in the same industry. Since the market seems unimpressed with PulteGroup, it's quite possible it could surprise on the upside. It is arguably worth checking if insiders are buying shares, because that might imply they believe the stock is undervalued.
How Growth Rates Impact P/E Ratios
Generally speaking the rate of earnings growth has a profound impact on a company's P/E multiple. That's because companies that grow earnings per share quickly will rapidly increase the 'E' in the equation. And in that case, the P/E ratio itself will drop rather quickly. Then, a lower P/E should attract more buyers, pushing the share price up.
PulteGroup increased earnings per share by 2.8% last year. And it has bolstered its earnings per share by 24% per year over the last five years.
Don't Forget: The P/E Does Not Account For Debt or Bank Deposits
One drawback of using a P/E ratio is that it considers market capitalization, but not the balance sheet. So it won't reflect the advantage of cash, or disadvantage of debt. In theory, a company can lower its future P/E ratio by using cash or debt to invest in growth.
While growth expenditure doesn't always pay off, the point is that it is a good option to have; but one that the P/E ratio ignores.
Is Debt Impacting PulteGroup's P/E?
PulteGroup has net debt equal to 28% of its market cap. You'd want to be aware of this fact, but it doesn't bother us.
The Bottom Line On PulteGroup's P/E Ratio
PulteGroup has a P/E of 7.0. That's below the average in the US market, which is 13.4. EPS grew over the last twelve months, and debt levels are quite reasonable. The P/E ratio implies the market is cautious about longer term prospects. Given PulteGroup's P/E ratio has declined from 11.5 to 7.0 in the last month, we know for sure that the market is more worried about the business today, than it was back then. For those who prefer invest in growth, this stock apparently offers limited promise, but the deep value investors may find the pessimism around this stock enticing.
Investors have an opportunity when market expectations about a stock are wrong. If it is underestimating a company, investors can make money by buying and holding the shares until the market corrects itself. So this free report on the analyst consensus forecasts could help you make a master move on this stock.
You might be able to find a better buy than PulteGroup. If you want a selection of possible winners, check out this free list of interesting companies that trade on a P/E below 20 (but have proven they can grow earnings).
If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned.
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