Price to earnings ratio
A company's share price divided by its earnings per share. It shows what buyers are paying for each unit of annual profit, so a higher ratio means a higher price for the same earnings.
The price to earnings ratio, almost always written P/E, puts a price on profit:
A P/E of 20 means buyers are paying twenty times one year of profit for the shares, or, read the other way round, that current profit would take twenty years to add up to the price. The same number comes out of dividing market capitalisation by total company earnings, which is often the easier route to it.
Two versions circulate and they are not interchangeable. Trailing P/E uses the last twelve months of reported earnings, so it is factual and backward-looking. Forward P/E uses estimates for the year ahead, so it is a forecast wearing a ratio's clothes, and it moves whenever the estimates do. Either way, the number means most inside a sector: a regulated utility with flat earnings and a software firm reinvesting everything are not priced on the same scale, and neither are markets in different countries.
The mistake is reading a low P/E as cheap and a high one as expensive. The ratio is a question, not an answer. A low P/E often reflects earnings the market expects to fall, and it is lowest of all for cyclical companies at the top of their cycle, when profits are at a peak that will not repeat. A high P/E can be justified by growth that has not arrived yet. When earnings are zero or negative the ratio stops working altogether, which is why loss-making companies get compared on revenue multiples instead.