There are many kinds of financial ratios that can be applied to try to identify value in stocks. One of the most common is PE, which relates the stock price to the earnings power of the company. Generally, the lower the PE, the better the value. A PE of five indicates that the current stock price is five times its annual earnings per share and if the company is able to sustain the current level of profits, investors will take five years to cover their cost assuming the company pays out all their earnings as dividends. PE multiples of stocks can also be used to compare valuations. The ease of computation has made PE ratio analysis popular among investors. But having said that, a low valuation may not fully justify an investment as they may not reflect the company's future growth prospects. But in some cases, PEs could be lower since growth is expected to be sluggish or negative either because of company-specific issues or due to concerns that impact the whole sector or the economy.
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