Ranking stocks with EPS and P/E ratios: A guide to fundamental analysis for investors

An illustration of a circular "1" symbol surrounded by fragmented geometric shapes and star-like elements, set against a bright yellow background. The design represents ranking and evaluating stocks or sectors, aligning with the use of EPS and P/E ratios in guiding informed investment decisions through fundamental analysis.

In the world of investing, Return on Investment (ROI) and Return on Equity (ROE) are two fundamental metrics that help assess a company’s financial performance.

An introduction to ranking stocks with fundamental analysis

While technical analysis focuses on price data displayed on stock charts, fundamental analysis digs deeper into the financial health of a company, often through its financial statements.

In this article, we’ll explore how to rank stocks using two common fundamental indicators: the P/E ratio (price-to-earnings ratio) and EPS (earnings per share). We’ll discuss how these metrics help investors assess individual stocks and entire sectors, giving a clearer picture of market performance.

Understanding P/E and EPS: Key indicators in fundamental analysis

The P/E ratio and EPS are widely used in fundamental analysis to gauge a company’s performance and market valuation. Here’s a quick breakdown of each:

  • P/E Ratio (Price-to-Earnings Ratio): This metric shows how much investors are willing to pay for each dollar of earnings. A P/E of 15, for instance, means investors are willing to pay $15 for every $1 of earnings. Typically, the market average P/E ranges between 15 and 20, but stocks can have vastly different P/E ratios based on various factors, including growth potential and investor sentiment. P/E is calculated by dividing the stock’s price by its EPS.
  • EPS (Earnings per Share): EPS represents the portion of a company’s profit allocated to each outstanding share of common stock. Higher EPS generally indicates greater profitability.

In essence, the P/E ratio gives insight into a stock’s value relative to its earnings, while EPS reflects the profitability per share. These metrics, when combined, provide a useful way to rank and compare stocks within sectors or across the broader market.

The importance of P/E and EPS in ranking sectors

A sector groups together companies that operate in similar industries, such as utilities, technology, or healthcare. By calculating the average P/E and EPS for each sector, investors can compare performance across these categories and identify where the most growth potential lies.

In Trade Radar, for example, sector summaries provide a quick overview of P/E and EPS metrics across the 11 major sectors typically used on exchanges. Ranking sectors based on these metrics allows investors to see where the best growth opportunities may be. Sectors with high P/E and EPS scores often demonstrate strong growth potential, as high EPS suggests profitability, while a high P/E may indicate optimism for future growth.

Once sectors are ranked, individual stocks within each sector can be assessed by their respective P/E and EPS ratios to identify high performers or potential investment opportunities.

Using forward forecasts for deeper analysis

When analysing P/E and EPS, it’s helpful to consider forward forecasts, ideally looking three years ahead. Forecasted metrics provide insights into a company’s expected performance, giving a clearer picture of its growth trajectory. If forward EPS estimates are higher than the current EPS, this suggests the company is expected to grow, potentially leading to price appreciation.

However, if forward forecasts are unavailable, the current published P/E and EPS scores are still useful for evaluating stock and sector performance. Investors can rely on these metrics as a baseline, with the understanding that additional insights from forecasts, if available, can further refine their analysis.

Trade Radar’s tools for ranking stocks and sectors 

Trade Radar offers several tools to support investors in ranking stocks and sectors by P/E and EPS:

  1. Sector Summary and Distribution: The platform’s dashboard displays sector summaries, providing a quick view of stock distribution across sectors. Pie charts show the distribution, while tables highlight sector performance over the past three years, allowing investors to track trends and growth potential at a glance.
  2. Watchlist Feature: Within Trade Radar’s Watchlist, investors can view individual stock data on P/E, EPS, and estimated EPS. By adjusting the Watchlist settings, users can add columns for these metrics, making it easier to compare stocks and monitor growth potential.
  3. Growth Indicators: Sectors and stocks with high P/E and EPS scores tend to indicate higher growth potential. Stocks with an estimated EPS higher than the current EPS are likely to increase in price, especially if the stock is already in a positive trend. By identifying these growth indicators, investors can make more informed choices when selecting stocks for their portfolios.

 

 

Practical considerations when ranking stocks

While the P/E and EPS approach is a powerful tool for ranking stocks and sectors, it’s important to remember that this is just one technique among many. Combining fundamental analysis with technical analysis provides a more comprehensive view of each stock’s performance. Here are a few key considerations when ranking stocks:

  • Evaluate stock volatility: Stocks in high-growth sectors may have higher P/E ratios due to anticipated future earnings, but they may also be more volatile. Consider using technical analysis tools to gauge price stability alongside P/E and EPS metrics.
  • Assess market conditions: Broader market performance can influence individual stock prices. For example, during market downturns, stocks across all sectors may experience declines, impacting P/E and EPS scores. A holistic view of market trends can help put individual stock performance into context.
  • Review forward-looking data carefully: Forecasted data provides additional insights but can vary significantly based on market conditions and industry trends. Always cross-check these estimates with recent performance and current market sentiment.

Using P/E and EPS ratios to enhance your stock ranking strategy

The P/E and EPS ratios are invaluable tools for ranking stocks and assessing sector performance. While P/E reveals how much investors are willing to pay for earnings, EPS shows profitability, and together, they offer a snapshot of a company’s valuation and growth potential. By examining both current and forecasted values for these metrics, investors can better identify which sectors and stocks may provide the most growth potential.

However, it’s essential to treat this method as one part of a broader strategy. Adding technical analysis, understanding market conditions, and considering forward-looking data all play a role in making informed investment decisions. With Trade Radar’s tools, you can streamline your analysis by viewing sector performance, comparing individual stock metrics, and building watchlists tailored to your strategy.

Whether you’re new to investing or looking to refine your approach, understanding these fundamental indicators can help you make more data-driven decisions and optimise your investment outcomes.

Maximise your investment strategy with Trade Radar. Rank stocks and sectors using P/E and EPS, set up watchlists, and track growth trends in real time.

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Steve Carlsson, Trade Radar
Written by Steve Carlsson Founder & Director
5 Jan 2025

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