When close to half the companies in the United States have price-to-earnings ratios (or "P/E's") above 19x, you may consider Federal Agricultural Mortgage Corporation (NYSE:AGM) as an attractive investment with its 10.9x P/E ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the reduced P/E.
As an illustration, earnings have deteriorated at Federal Agricultural Mortgage over the last year, which is not ideal at all. One possibility is that the P/E is low because investors think the company won't do enough to avoid underperforming the broader market in the near future. If you like the company, you'd be hoping this isn't the case so that you could potentially pick up some stock while it's out of favour.
See our latest analysis for Federal Agricultural Mortgage
How Is Federal Agricultural Mortgage's Growth Trending?
The only time you'd be truly comfortable seeing a P/E as low as Federal Agricultural Mortgage's is when the company's growth is on track to lag the market.
Taking a look back first, the company's earnings per share growth last year wasn't something to get excited about as it posted a disappointing decline of 1.6%. That put a dampener on the good run it was having over the longer-term as its three-year EPS growth is still a noteworthy 29% in total. Accordingly, while they would have preferred to keep the run going, shareholders would be roughly satisfied with the medium-term rates of earnings growth.
This is in contrast to the rest of the market, which is expected to grow by 14% over the next year, materially higher than the company's recent medium-term annualised growth rates.
With this information, we can see why Federal Agricultural Mortgage is trading at a P/E lower than the market. Apparently many shareholders weren't comfortable holding on to something they believe will continue to trail the bourse.
The Final Word
Using the price-to-earnings ratio alone to determine if you should sell your stock isn't sensible, however it can be a practical guide to the company's future prospects.
We've established that Federal Agricultural Mortgage maintains its low P/E on the weakness of its recent three-year growth being lower than the wider market forecast, as expected. At this stage investors feel the potential for an improvement in earnings isn't great enough to justify a higher P/E ratio. Unless the recent medium-term conditions improve, they will continue to form a barrier for the share price around these levels.
There are also other vital risk factors to consider and we've discovered 2 warning signs for Federal Agricultural Mortgage (1 shouldn't be ignored!) that you should be aware of before investing here.
If P/E ratios interest you, you may wish to see this free collection of other companies with strong earnings growth and low P/E ratios.
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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.