When close to half the companies in the United States have price-to-earnings ratios (or "P/E's") below 17x, you may consider Moody's Corporation (NYSE:MCO) as a stock to avoid entirely with its 48.5x P/E ratio. However, the P/E might be quite high for a reason and it requires further investigation to determine if it's justified.

With its earnings growth in positive territory compared to the declining earnings of most other companies, Moody's has been doing quite well of late. The P/E is probably high because investors think the company will continue to navigate the broader market headwinds better than most. If not, then existing shareholders might be a little nervous about the viability of the share price.

How Is Moody's' Growth Trending?

In order to justify its P/E ratio, Moody's would need to produce outstanding growth well in excess of the market.

Retrospectively, the last year delivered an exceptional 23% gain to the company's bottom line. Despite this strong recent growth, it's still struggling to catch up as its three-year EPS frustratingly shrank by 15% overall. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.

Turning to the outlook, the next three years should generate growth of 14% per annum as estimated by the analysts watching the company. That's shaping up to be materially higher than the 10% per annum growth forecast for the broader market.

With this information, we can see why Moody's is trading at such a high P/E compared to the market. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.

The Key Takeaway

Typically, we'd caution against reading too much into price-to-earnings ratios when settling on investment decisions, though it can reveal plenty about what other market participants think about the company.

As we suspected, our examination of Moody's' analyst forecasts revealed that its superior earnings outlook is contributing to its high P/E. Right now shareholders are comfortable with the P/E as they are quite confident future earnings aren't under threat. Unless these conditions change, they will continue to provide strong support to the share price.

Before you settle on your opinion, we've discovered 1 warning sign for Moody's that you should be aware of.

It's important to make sure you look for a great company, not just the first idea you come across. So take a peek at this free list of interesting companies with strong recent earnings growth (and a low P/E).

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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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com