The PE ratio answers one question: how many years of current earnings would it take to pay back the stock price?
Formula: PE = Stock Price / Earnings Per Share
Imagine you're buying a pizza shop. It earns $50,000/year in profit and the owner wants $500,000 for it. That's a PE of 10 — it would take 10 years of earnings to pay back the purchase price. If they wanted $1,000,000, the PE would be 20. Higher PE = higher expectations for future growth.
What PE Numbers Mean
PE of 10-15: Market thinks growth will be modest (value stocks, banks, utilities)
PE of 20-30: Market expects solid growth (most S&P 500 companies)
PE of 50+: Market expects explosive growth (high-growth tech companies)
Negative PE: Company is losing money (no earnings to divide by)
A high PE doesn't automatically mean "overpriced" and a low PE doesn't mean "cheap." A company growing earnings at 40%/year might deserve a PE of 60. A company with shrinking earnings at PE 8 might be a trap.
Peter Lynch, One Up on Wall Street: Lynch categorized companies into 6 types — slow growers, stalwarts, fast growers, cyclicals, turnarounds, and asset plays — each with a different "normal" PE range. A fast grower at PE 20 might be cheap; a slow grower at PE 20 might be expensive.
Market Capitalization (Market Cap)
Market cap is a company's total "price tag" on the stock market.
Formula: Market Cap = Share Price x Total Number of Shares
Think of market cap like the total value of all apartments in a building. The share price is the price of one apartment, and the total number of shares is the number of apartments. A luxury high-rise (mega-cap) is worth more than a small duplex (micro-cap), but that doesn't automatically make it a better investment.
Why Market Cap Matters
Mega/Large-cap: More stable, less volatile, often pay dividends. Think "blue chip."
Mid-cap: Sweet spot of growth potential + some stability.
Small/Micro-cap: Higher growth potential but also higher risk and volatility.
Share price alone means nothing. A $500 stock isn't "more expensive" than a $20 stock — it depends on how many shares exist. Market cap tells you the actual size of the company.
EPS (Earnings Per Share)
EPS tells you how much profit the company made for each share — think of it as "profit per slice."
Formula: EPS = Total Net Profit / Total Number of Shares
Why EPS Matters
EPS is the single most-watched number in earnings season
Rising EPS = company is getting more profitable (good signal)
Falling EPS = profits are shrinking (warning sign)
Analysts forecast EPS each quarter — "beat" or "miss" moves stock prices
If a pizza generates $10,000 in profit and is cut into 1,000 slices, each slice earned $10. That's EPS. If next year the pizza earns $12,000 with the same slices, EPS goes up to $12 — your slice is more valuable.
When you see "Company XYZ beat earnings expectations," it usually means their actual EPS was higher than what analysts predicted. This often causes the stock price to jump.
Expense Ratio (Fund Fees)
The expense ratio is the annual fee that ETFs and mutual funds charge to manage your money, expressed as a percentage of your investment.
The fee is automatically deducted — you never see a bill. It's silently shaved off your returns every day. That's why it's so dangerous: it feels invisible but compounds into tens of thousands over your investing life.
Quick Reference
0.03% (VOO, VTI) — Rock bottom. Index funds are this cheap.
0.20% — Still low. Most passive ETFs live here.
0.50-1.0% — Actively managed funds. Hard to justify unless performance is exceptional.
1.5%+ — Expensive. Most studies show active funds rarely beat index funds after fees.
Expense ratio is the one investment metric you can fully control. You can't control market returns, but you CAN choose a 0.03% fund over a 1% fund. Over 30 years, that difference alone could mean $40,000+ more in your pocket.
Philip Fisher, Common Stocks and Uncommon Profits: Fisher taught that quantitative metrics like fees tell part of the story. But the qualitative factors — management quality, competitive advantage, growth potential — are what separate good investments from great ones. Numbers alone aren't enough.
Dividend Yield
Dividend yield tells you how much cash income a stock pays relative to its price — it's the "interest rate" of owning a stock.
0%: Growth companies that reinvest all profit (Amazon, Tesla)
1-2%: Most S&P 500 stocks (average is ~1.3%)
3-5%: "Income stocks" — utilities, REITs, established blue chips
7%+: Suspiciously high — could mean the company is in trouble and the price has crashed
A dividend yield of 8% sounds amazing — until you realize the stock dropped 50% and might cut the dividend next quarter. Always check why the yield is so high before buying.
Dividend yield gives you "passive income" from stocks without selling them. For long-term investors, reinvesting dividends to buy more shares is one of the most powerful wealth-building strategies — it compounds your returns on top of price appreciation.
52-Week High/Low
The 52-week high and 52-week low are the highest and lowest prices a stock has traded at during the past year. They give you context for where the current price sits in recent history.
How to Use the 52-Week Range
It shows context, not a buy/sell signal by itself
A stock can make a new 52-week high and keep going higher (momentum)
A stock can hit a 52-week low and keep dropping (deteriorating fundamentals)
Combine with other metrics (PE, EPS growth) for a fuller picture
The 52-week range is like checking a house's price history. If it was $500K last year and now it's $350K, is it a deal or is the neighborhood declining? The price drop alone doesn't give you the answer — you need to investigate why.
"Buy low, sell high" sounds simple, but a stock near its 52-week low isn't always a bargain. It could be low because the company is losing money, facing lawsuits, or its industry is shrinking. Always ask WHY it's at that level.
Peter Lynch, One Up on Wall Street: "Know what you own and know why you own it." Numbers like the 52-week range are starting points, not conclusions. The real work is understanding the business behind the number.
Module 2 Quiz
Answer all correctly to complete this module. You can retry as many times as you want.
Q1. A PE ratio of 25 means...
The stock price is $25
At current earnings, it takes 25 years to earn back your investment price
The company has 25 million shares
The company's profit grew 25% last year
Q2. A company worth $500 billion is classified as:
Mega-cap
Large-cap
Mid-cap
Small-cap
Q3. EPS (Earnings Per Share) is calculated by:
Multiplying stock price by total shares
Dividing stock price by annual revenue
Dividing total profit by total number of shares
Subtracting expenses from revenue
Q4. VOO's expense ratio is 0.03%. On a $10,000 investment, the annual fee is:
$3
$30
$300
$0.30
Q5. A dividend yield of 4% on a $200 stock means the annual dividend is:
$4
$8
$20
$40
Q6. A stock near its 52-week low is always:
A great buy — it's "on sale"
About to bounce back up
Going to zero — time to sell
None of the above — it could be a bargain or a falling knife