Investment is an activity carried out to obtain future profits by investing in certain assets such as stocks, bonds, property or commodities. However, before deciding to invest, it is important to understand well the value of the assets to be invested, and this is where the valuation or valuation of assets becomes crucial.
The investment valuation ratio is a tool used to help investors better understand the value of an investment asset. This ratio describes the relationship between the market price of an asset and the financial performance of the company that issued the asset. By understanding the investment valuation ratio, investors can estimate potential returns and investment risks, as well as make wiser investment decisions.
Unfortunately, many investors do not pay attention to the investment valuation ratio and only focus on the market price of stocks or other assets. In fact, the market price alone is not enough to determine whether an asset is expensive or cheap. Therefore, in this article we will discuss in more depth the investment valuation ratio, its types, how to calculate it, and how to analyze it to help you make smart investment decisions.
Definition of Investment Valuation Ratio
The investment valuation ratio can be defined as a ratio used to measure the value of investment assets by comparing the market price of these assets with the financial performance of the issuing company. Investment valuation ratios are generally used to estimate potential returns and investment risks, as well as assist investors in making wiser investment decisions.
The purpose of using the investment valuation ratio is to assist investors in obtaining a better picture of the value of the assets to be invested. By understanding the investment valuation ratio, investors can compare the value of investment assets with similar assets from other companies, estimate potential returns and investment risks, and make wiser investment decisions.
Types of Investment Valuation Ratios
There are several types of investment valuation ratios that are commonly used by investors to assess the value of investment assets, including:
1. Price to Earnings Ratio (P/E Ratio)
The P/E Ratio is the most commonly used investment valuation ratio by investors. This ratio measures the relationship between stock price and earnings per share of the company that issued it. The P/E Ratio gives an idea of how much investors have to pay for every dollar of net profit generated by the company.
2. Price to Sales Ratio (P/S Ratio)
The P/S Ratio measures the relationship between stock prices and sales per share of the issuing company. This ratio is used to evaluate how much investors have to pay for each dollar of a company’s earnings.
3. Price to Book Value Ratio (P/B Ratio)
The P/B Ratio measures the relationship between the stock price and the book value per share of the company that issued it. The book value per share is obtained by dividing the total value of the company’s net assets by the number of shares outstanding. This ratio is used to evaluate how much investors have to pay for each dollar of a company’s book value.
4. Dividend Yield Ratio
The Dividend Yield Ratio measures the rate of return on investment in the form of dividends given by the company to shareholders. This ratio is calculated by dividing the dividend per share by the share price.
To be able to choose the right type of investment valuation ratio, investors must consider the characteristics of the company to be invested and the desired investment objectives. The combination of several investment valuation ratios can provide a more complete picture of the value of the investment assets to be purchased.
How to Calculate Investment Valuation Ratio
After understanding the types of investment valuation ratios, the next step is to calculate these ratios. Here’s how to calculate several types of investment valuation ratios that are commonly used:
1. Price to Earnings Ratio (P/E Ratio)
The P/E Ratio is calculated by dividing the share price per share by the net profit per share. For example, if the share price per share is $100 and the earnings per share are $10, then the P/E Ratio is 10 ($100 / $10).
2. Price to Sales Ratio (P/S Ratio)
P/S Ratio is calculated by dividing the share price per share by earnings per share. For example, if the share price per share is $100 and the earnings per share are $20, then the P/S ratio is 5 ($100 / $20).
3. Price to Book Value Ratio (P/B Ratio)
The P/B Ratio is calculated by dividing the share price per share by the book value per share. For example, if the share price per share is $100 and the book value per share is $50, then the P/B Ratio is 2 ($100 / $50).
4. Dividend Yield Ratio
The Dividend Yield Ratio is calculated by dividing the dividend per share by the share price per share. For example, if the dividend per share is $2 and the share price per share is $100, then the Dividend Yield Ratio is 2% ($2 / $100).
Calculating the investment valuation ratio requires data about the company’s finances. To obtain this data, investors can view the financial reports provided by the company. And don’t worry, because the report is open to the public to read.
Investment Valuation Ratio Analysis
Furthermore, after calculating the investment valuation ratio, investors need to analyze the ratio to assess investment potential. The following are a number of things that need to be considered in conducting an investment valuation ratio analysis:
1. Compare with Industry and Competitors
To find out whether a company’s investment valuation ratio is good enough or not, it is necessary to compare it with the investment valuation ratio of similar companies in the same industry. In addition, it also needs to be compared with the investment valuation ratio of the closest competitors.
2. Pay Attention to Historical Trends
Looking at historical trends in investment valuation ratios can help investors assess whether a company is growing or declining. If the investment valuation ratio shows an increasing trend over time, this can indicate that the company is growing and has the potential to provide good investment returns in the future.
3. Evaluation of Growth Potential
Apart from looking at historical trends, investors also need to evaluate the company’s growth potential in the future. If the company has expansion plans or promising new product development, the investment valuation ratio that looks less favorable now may become more attractive in the future.
4. Pay Attention to Other Fundamental Factors
In addition to the investment valuation ratio, it is also necessary to pay attention to other fundamental factors such as the company’s financial performance, company management, and overall market conditions. Poor financial performance or bad management can affect the value of investment assets, even if the investment valuation ratio looks good.
In conducting investment valuation ratio analysis, there is no one ratio that can be used as a single measure. Investors should look at a combination of several investment valuation ratios and other fundamental factors to make smart investment decisions.
Conclusion
The investment valuation ratio is a useful tool for investors in assessing a company’s investment potential. These ratios can help investors understand whether the company’s stock price is commensurate with its financial performance. However, investors should note that the investment valuation ratio is not a single measure that can be used to make smart investment decisions.
In addition to the investment valuation ratio, it is also necessary to pay attention to other fundamental factors such as the company’s financial performance, company management, and overall market conditions. In conducting investment analysis, investors must conduct careful research and analysis to make smart investment decisions.
In the investment world, risk and reward are always in balance. Investors should pay attention to the risks associated with investing and make investment decisions that are in line with their long-term investment goals.
