National Storage Affiliates Trust (NYSE:NSA) trades with a trailing P/E of 86.5x, which is higher than the industry average of 32.6x. While NSA might seem like a stock to avoid or sell if you own it, it is important to understand the assumptions behind the P/E ratio before you make any investment decisions. In this article, I will deconstruct the P/E ratio and highlight what you need to be careful of when using the P/E ratio. See our latest analysis for NSA
What you need to know about the P/E ratio
P/E is a popular ratio used for relative valuation. 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 NSA
Price-Earnings Ratio = Price per share ÷ Earnings per share
NSA Price-Earnings Ratio = 24.24 ÷ 0.28 = 86.5x
On its own, the P/E ratio doesn’t tell you much; however, it becomes extremely useful when you compare it with other similar companies. Our goal is to compare the stock’s P/E ratio to the average of companies that have similar attributes to NSA, such as company lifetime and products sold. A quick method of creating a peer group is to use companies in the same industry, which is what I will do. At 86.5x, NSA’s P/E is higher than its industry peers (32.6x). This implies that investors are overvaluing each dollar of NSA’s earnings. As such, our analysis shows that NSA represents an over-priced stock.
A few caveats
Before you jump to the conclusion that NSA should be banished from your portfolio, it is important to realise that our conclusion rests on two assertions. The first is that our “similar companies” are actually similar to NSA, or else the difference in P/E might be a result of other factors. For example, if you compared higher growth firms with NSA, then its P/E would naturally be lower since investors would reward its peers’ higher growth with a higher price. The second assumption that must hold true is that the stocks we are comparing NSA to are fairly valued by the market. If this is violated, NSA'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? You may have already conducted fundamental analysis on the stock as a shareholder, so its current overvaluation could signal a potential selling opportunity to reduce your exposure to NSA. Now that you understand the ins and outs of the PE metric, you should know to bear in mind its limitations before you make an investment decision.
Are you a potential investor? If you are considering investing in NSA, 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 National Storage Affiliates Trust 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.