Unfortunately for some shareholders, the Marathon Petroleum (NYSE:MPC) share price has dived 72% in the last thirty days. And that drop will have no doubt have some shareholders concerned that the 73% share price decline, over the last year, has turned them into bagholders. What is a bagholder? It is a shareholder who has suffered a bad loss, but continues to hold indefinitely, without questioning their reasons for holding, even as the losses grow greater.
Assuming nothing else has changed, a lower share price makes a stock more attractive to potential buyers. 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 Marathon Petroleum's P/E Ratio Compare To Its Peers?
We can tell from its P/E ratio of 4.16 that sentiment around Marathon Petroleum isn't particularly high. We can see in the image below that the average P/E (6.4) for companies in the oil and gas industry is higher than Marathon Petroleum's P/E.
Marathon Petroleum's P/E tells us that market participants think it will not fare as well as its peers in the same industry. Many investors like to buy stocks when the market is pessimistic about their prospects. If you consider the stock interesting, further research is recommended. For example, I often monitor director buying and selling.
How Growth Rates Impact P/E Ratios
Earnings growth rates have a big influence on P/E ratios. When earnings grow, the 'E' increases, over time. Therefore, even if you pay a high multiple of earnings now, that multiple will become lower in the future. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
Marathon Petroleum saw earnings per share decrease by 25% last year. But over the longer term (3 years), earnings per share have increased by 22%. And it has shrunk its earnings per share by 2.0% per year over the last five years. This growth rate might warrant a below average P/E ratio.
Remember: P/E Ratios Don't Consider The Balance Sheet
It's important to note that the P/E ratio considers the market capitalization, not the enterprise value. Thus, the metric does not reflect cash or debt held by the company. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.
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.
Marathon Petroleum's Balance Sheet
Marathon Petroleum's net debt is considerable, at 216% of its market cap. This is a relatively high level of debt, so the stock probably deserves a relatively low P/E ratio. Keep that in mind when comparing it to other companies.
The Bottom Line On Marathon Petroleum's P/E Ratio
Marathon Petroleum has a P/E of 4.2. That's below the average in the US market, which is 11.5. When you consider that the company has significant debt, and didn't grow EPS last year, it isn't surprising that the market has muted expectations. Given Marathon Petroleum's P/E ratio has declined from 14.8 to 4.2 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.
When the market is wrong about a stock, it gives savvy investors an opportunity. If the reality for a company is not as bad as the P/E ratio indicates, then the share price should increase as the market realizes this. So this free visualization of the analyst consensus on future earnings could help you make the right decision about whether to buy, sell, or hold.
But note: Marathon Petroleum may not be the best stock to buy. So take a peek at this free list of interesting companies with strong recent earnings growth (and a P/E ratio below 20).
If you spot an error that warrants correction, please contact the editor at email@example.com. 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.
We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Thank you for reading.