A Rising Share Price Has Us Looking Closely At PennyMac Financial Services, Inc.'s (NYSE:PFSI) P/E Ratio
Those holding PennyMac Financial Services (NYSE:PFSI) shares must be pleased that the share price has rebounded 30% in the last thirty days. But unfortunately, the stock is still down by 15% over a quarter. And the full year gain of 31% isn't too shabby, either!
Assuming no other changes, a sharply higher share price makes a stock less attractive to potential buyers. In the long term, share prices tend to follow earnings per share, but in the short term prices bounce around in response to short term factors (which are not always obvious). The implication here is that deep value investors might steer clear when expectations of a company are too high. 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). A high P/E implies that investors have high expectations of what a company can achieve compared to a company with a low P/E ratio.
See our latest analysis for PennyMac Financial Services
How Does PennyMac Financial Services's P/E Ratio Compare To Its Peers?
We can tell from its P/E ratio of 5.75 that sentiment around PennyMac Financial Services isn't particularly high. If you look at the image below, you can see PennyMac Financial Services has a lower P/E than the average (10.7) in the mortgage industry classification.
PennyMac Financial Services'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
Probably the most important factor in determining what P/E a company trades on is the earnings growth. When earnings grow, the 'E' increases, over time. And in that case, the P/E ratio itself will drop rather quickly. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
PennyMac Financial Services's earnings made like a rocket, taking off 92% last year. The cherry on top is that the five year growth rate was an impressive 24% per year. So I'd be surprised if the P/E ratio was not above average.
Don't Forget: The P/E Does Not Account For Debt or Bank Deposits
The 'Price' in P/E reflects the market capitalization of the company. Thus, the metric does not reflect cash or debt held by the company. Theoretically, a business can improve its earnings (and produce a lower P/E in the future) by investing in growth. That means taking on debt (or spending its cash).
Such spending might be good or bad, overall, but the key point here is that you need to look at debt to understand the P/E ratio in context.
So What Does PennyMac Financial Services's Balance Sheet Tell Us?
Net debt totals a substantial 296% of PennyMac Financial Services's market cap. This level of debt justifies a relatively low P/E, so remain cognizant of the debt, if you're comparing it to other stocks.
The Bottom Line On PennyMac Financial Services's P/E Ratio
PennyMac Financial Services has a P/E of 5.7. That's below the average in the US market, which is 14.3. While the EPS growth last year was strong, the significant debt levels reduce the number of options available to management. If it continues to grow, then the current low P/E may prove to be unjustified. What is very clear is that the market has become less pessimistic about PennyMac Financial Services over the last month, with the P/E ratio rising from 4.4 back then to 5.7 today. If you like to buy stocks that could be turnaround opportunities, then this one might be a candidate; but if you're more sensitive to price, then you may feel the opportunity has passed.
Investors should be looking to buy stocks that the market is wrong about. 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 visualization of the analyst consensus on future earnings could help you make the right decision about whether to buy, sell, or hold.
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 editorial-team@simplywallst.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.
