To the annoyance of some shareholders, Ameriprise Financial (NYSE:AMP) shares are down a considerable 47% in the last month. Even longer term holders have taken a real hit with the stock declining 23% 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.
Does Ameriprise Financial Have A Relatively High Or Low P/E For Its Industry?
Ameriprise Financial's P/E of 6.76 indicates relatively low sentiment towards the stock. We can see in the image below that the average P/E (23.4) for companies in the capital markets industry is higher than Ameriprise Financial's P/E.
Its relatively low P/E ratio indicates that Ameriprise Financial shareholders think it will struggle to do as well as other companies in its industry classification. Since the market seems unimpressed with Ameriprise Financial, it's quite possible it could surprise on the upside. You should delve deeper. I like to check if company insiders have been buying or selling.
How Growth Rates Impact P/E Ratios
P/E ratios primarily reflect market expectations around earnings growth rates. If earnings are growing quickly, then the 'E' in the equation will increase faster than it would otherwise. 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.
Ameriprise Financial's earnings per share fell by 2.0% in the last twelve months. But over the longer term (5 years) earnings per share have increased by 11%.
Remember: P/E Ratios Don't Consider The Balance Sheet
One drawback of using a P/E ratio is that it considers market capitalization, but not the balance sheet. Thus, the metric does not reflect cash or debt held by the company. In theory, a company can lower its future P/E ratio by using cash or debt to invest in growth.
Such expenditure might be good or bad, in the long term, but the point here is that the balance sheet is not reflected by this ratio.
Is Debt Impacting Ameriprise Financial's P/E?
Ameriprise Financial's net debt is 0.04% of its market cap. It would probably trade on a higher P/E ratio if it had a lot of cash, but I doubt it is having a big impact.
The Verdict On Ameriprise Financial's P/E Ratio
Ameriprise Financial's P/E is 6.8 which is below average (12.2) in the US market. The debt levels are not a major concern, but the lack of EPS growth is likely weighing on sentiment. What can be absolutely certain is that the market has become more pessimistic about Ameriprise Financial over the last month, with the P/E ratio falling from 12.7 back then to 6.8 today. For those who prefer to invest with the flow of momentum, that might be a bad sign, but for deep value investors this stock might justify some research.
When the market is wrong about a stock, it gives savvy investors an opportunity. As value investor Benjamin Graham famously said, 'In the short run, the market is a voting machine but in the long run, it is a weighing machine. So this free visual report on analyst forecasts could hold the key to an excellent investment decision.
Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E below 20.
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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