If one can figure out a company on the basis of P.E ratio it helps to mitigate the risk of loss. Many great players of share market, investors, market analyzer depends on this ratio for the trading of the stocks. It is accepted all over the world and is the basis for the stock trading. By taking the median of P.E ratio's over several years one could determine the standardized P.E ratio which acts as a benchmark to indicated whether the stock is worth buying or not. P.E ratio of the company is from a range of 10-15 indicates that the stock is worth buying. But if the P.E ratio of a company is less than 10 it indicated that the company is undervalued and investors are not showing interest in the company anymore due to different reasons such as institutional governance, financial condition, goodwill, etc of the company. If the stock price of a company is undervalued then it means it's time to buy stocks and is worth of dividends and profits generated in upcoming time. Overvalued indicates it's time to sell the stocks or stop loss strategy should be adopted.
Let's take the example of two companies A and B. The P.E ratio of Company A is 10 and Company B is 25. Looking at the P.E ratio we should choose company A for the long term profits. Let's say whether you want to earn 1$ for every 10$ invested(10%) or 1$ for every 25$ invested (i.e. 4%). Obviously, you will choose company A.But, many investors buy stocks of a company with high P.E ratio because they believe that the company will profit in future.
