SandRidge Mississippian Trust I (NYSE:SDT) is currently trading at a trailing P/E of 4x, which is lower than the industry average of 15.2x. While SDT might seem like an attractive stock to buy, it is important to understand the assumptions behind the P/E ratio before you make any investment decisions. In this article, I will break down what the P/E ratio is, how to interpret it and what to watch out for. View our latest analysis for SandRidge Mississippian Trust I
Breaking down the P/E ratio
A common ratio used for relative valuation is the P/E ratio. By comparing a stock’s price per share to its earnings per share, we are able to see how much investors are paying for each dollar of the company’s earnings.
P/E Calculation for SDT
Price-Earnings Ratio = Price per share ÷ Earnings per share
SDT Price-Earnings Ratio = $0.91 ÷ $0.227 = 4x
The P/E ratio isn’t a metric you view in isolation and only becomes useful when you compare it against other similar companies. Our goal is to compare the stock’s P/E ratio to the average of companies that have similar attributes to SDT, such as company lifetime and products sold. A common peer group is companies that exist in the same industry, which is what I use. SDT’s P/E of 4x is lower than its industry peers (15.2x), which implies that each dollar of SDT’s earnings is being undervalued by investors. Therefore, according to this analysis, SDT is an under-priced stock.
Assumptions to be aware of
While our conclusion might prompt you to buy SDT immediately, there are two important assumptions you should be aware of. Firstly, our peer group contains companies that are similar to SDT. If this isn’t the case, the difference in P/E could be due to other factors. For example, if you are comparing lower risk firms with SDT, then its P/E would naturally be lower than its peers, as investors would value those with lower risk at a higher price. The second assumption that must hold true is that the stocks we are comparing SDT to are fairly valued by the market. If this does not hold, there is a possibility that SDT’s P/E is lower because our peer group is overvalued by the market.
To help readers see pass the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned.