What is Price-to-earnings (P/E) ratio?

The price-to-earnings (P/E) ratio is a way to see if a company's price is fair compared to how much money it makes.

Imagine you're buying a lemonade stand. The price is how much the stand costs, and the earnings are how much money the stand makes every day. If the stand costs $10 and it makes $2 each day, its P/E ratio is 5, because you’re paying 5 times what it earns every day.

Now imagine another lemonade stand that costs $20 but also makes $2 a day. Its P/E ratio is 10, meaning you're paying 10 times what it earns. That one seems more expensive compared to the first one, even though both make the same amount of money.

Think of the P/E ratio like comparing two toys at the store. One costs $5 and gives you 2 stickers every week, that’s a good deal. Another costs $10 but also gives you 2 stickers each week, it's more expensive, even though both give the same reward.

So when people look at the P/E ratio, they’re trying to figure out if a company is overpriced or underpriced compared to how much money it makes.