Is Genworth Mortgage Insurance Australia Limited (ASX:GMA) A Buy At Its Current Price?
Genworth Mortgage Insurance Australia Limited (ASX:GMA) is trading with a trailing P/E of 9.5x, which is lower than the industry average of 17.8x. While GMA 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 Genworth Mortgage Insurance Australia
Demystifying the P/E ratio
P/E is often used for relative valuation since earnings power is a chief driver of investment value. 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 GMA
Price-Earnings Ratio = Price per share ÷ Earnings per share
GMA Price-Earnings Ratio = 2.9 ÷ 0.306 = 9.5x
The P/E ratio itself doesn’t tell you a lot; however, it becomes very insightful when you compare it with other similar companies. We preferably want to compare the stock’s P/E ratio to the average of companies that have similar features to GMA, such as capital structure and profitability. One way of gathering a peer group is to use firms in the same industry, which is what I’ll do. Since GMA’s P/E of 9.5x is lower than its industry peers (17.8x), it means that investors are paying less than they should for each dollar of GMA’s earnings. As such, our analysis shows that GMA represents an under-priced stock.
A few caveats
However, before you rush out to buy GMA, it is important to note that this conclusion is based on two key assumptions. Firstly, our peer group contains companies that are similar to GMA. 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 GMA, 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 GMA to are fairly valued by the market. If this is violated, GMA’s P/E may be lower than its peers as they are actually overvalued by investors.
What this means for you:
Are you a shareholder? Since you may have already conducted your due diligence on GMA, the undervaluation of the stock may mean it is a good time to top up on your current holdings. But at the end of the day, keep in mind that relative valuation relies heavily on critical assumptions I’ve outlined above.
Are you a potential investor? If you are considering investing in GMA, looking at the PE ratio on its own is not enough to make a well-informed decision. You will benefit from looking at additional analysis and considering its intrinsic valuation along with other relative valuation metrics like PEG and EV/Sales.
PE is one aspect of your portfolio construction to consider when holding or entering into a stock. But it is certainly not the only factor. Take a look at our most recent infographic report on Genworth Mortgage Insurance Australia for a more in-depth analysis of the stock to help you make a well-informed investment decision. Since we know a limitation of PE is it doesn’t properly account for growth, you can use our free platform to see my list of stocks with a high growth potential and see if their PE is still reasonable.
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.
