When it comes to finding undervalued stocks in 2025, relying on gut feeling or surface-level data isn’t enough. The smart approach involves digging into a company’s financial health through key ratios that can give you a clearer picture of its true value. Five financial ratios stand out as essential tools in this process: Price-to-Earnings (P/E), Price/Earnings-to-Growth (PEG), Return on Equity (ROE), Price-to-Book (P/B), and Debt-to-Equity (D/E). Each of these sheds light on different aspects of a company’s performance and valuation, helping you spot stocks that the market may be undervaluing.
Let’s break down how you can use these ratios practically and effectively to identify undervalued stocks, along with examples and actionable tips you can apply right away.
First, the Price-to-Earnings (P/E) ratio is the classic go-to for many investors. It measures how much investors are willing to pay for each dollar of a company’s earnings. To calculate it, divide the current stock price by the earnings per share (EPS) over the past 12 months. A lower P/E compared to the company’s historical average, its industry peers, or the overall market can suggest undervaluation. But beware—P/E alone isn’t foolproof. For example, a low P/E might reflect poor future growth prospects or underlying problems. In 2025, with interest rates fluctuating and economic conditions shifting, it’s crucial to look at P/E in context. The S&P 500 average P/E has hovered around 18 historically, but currently, some sectors command higher multiples due to growth expectations or low interest rates supporting valuations[2]. So, if you see a tech company with a P/E significantly below its sector average, it might be worth a closer look.
Next up is the Price/Earnings-to-Growth (PEG) ratio, which adds nuance by factoring in expected earnings growth. It’s calculated by dividing the P/E ratio by the projected annual earnings growth rate. A PEG ratio below 1 often indicates a stock may be undervalued relative to its growth potential. This is particularly useful in 2025, where growth trajectories vary widely across industries due to technological shifts and market disruptions. For instance, if a renewable energy company has a P/E of 20 but is expected to grow earnings by 30% annually, its PEG would be around 0.67, signaling potential undervaluation[1]. Always cross-check the growth estimates for credibility—relying on overly optimistic forecasts can mislead you.
Return on Equity (ROE) tells you how efficiently a company uses shareholders’ equity to generate profits. It’s expressed as a percentage: net income divided by shareholder equity. Higher ROE indicates better management performance and profitability. When hunting for undervalued stocks, look for companies with strong, consistent ROE that are trading at modest valuations. A company with a high ROE but a low P/E or P/B ratio could be a hidden gem. For example, a consumer goods company showing 18% ROE with a P/E of 12 might be undervalued compared to its peers[1]. However, watch out for artificially high ROE caused by excessive debt.
The Price-to-Book (P/B) ratio compares a company’s market value to its book value, which is the net asset value according to the balance sheet. You calculate this by dividing the current stock price by book value per share. A P/B ratio under 1 suggests the stock is trading for less than the company’s net assets, which can be a sign of undervaluation. For example, if a company has $90 million in assets, $60 million in liabilities, and 10 million shares outstanding, the book value per share is $3. If the stock price is $5, the P/B ratio is 1.67. In contrast, a P/B of 0.8 means the stock trades below book value, potentially signaling a bargain[4]. Industries vary widely in typical P/B ratios, so always compare within the sector. Financial firms, for instance, often have lower P/B norms than tech companies.
Finally, the Debt-to-Equity (D/E) ratio measures financial leverage by comparing a company’s total debt to shareholders’ equity. A lower D/E ratio generally indicates less risk because the company relies less on borrowed money. When evaluating undervalued stocks, a moderate or low D/E can be a green flag that the company’s valuation isn’t artificially depressed by financial risk. Conversely, a very high D/E might explain why a stock is cheap, but it also signals potential trouble if the company struggles to service its debt[1]. For example, an industrial firm with a D/E of 0.5 is generally less risky than a peer with a D/E of 3. In 2025, with interest rates higher than the ultra-low levels seen in the previous decade, debt costs are more significant, making this ratio even more critical.
Using these ratios together gives a more complete picture. For instance, a company with a low P/E, PEG under 1, strong ROE, P/B below industry average, and manageable D/E could very well be undervalued and poised for growth. Conversely, if any one of these ratios signals a red flag, it’s worth digging deeper before making a decision.
Let me give you a practical example. Suppose you’re looking at two stocks in the renewable energy sector:
Stock A has a P/E of 15, PEG of 0.9, ROE of 20%, P/B of 1.2, and D/E of 0.4.
Stock B has a P/E of 25, PEG of 1.5, ROE of 12%, P/B of 3.5, and D/E of 1.2.
Stock A looks like the better value buy because it trades at a lower multiple relative to earnings and growth, has strong profitability, reasonable asset valuation, and low debt risk. Stock B, despite the sector’s growth promise, appears overvalued and carries more financial risk.
Of course, numbers tell only part of the story. It’s equally important to understand the company’s business model, competitive environment, and broader market trends. For example, the rise of artificial intelligence and sustainability initiatives in 2025 has reshaped growth prospects in many sectors. Ratios can help you focus your research but shouldn’t replace thorough due diligence.
A quick tip: always compare financial ratios to historical averages, industry peers, and market conditions. What’s considered undervalued in one sector or economic cycle might not hold true in another. For instance, a P/E of 20 might be cheap for a fast-growing tech company but expensive for a mature utility firm. Also, watch for one-time accounting events or temporary earnings dips that can skew ratios.
To sum up, mastering these five financial ratios can dramatically improve your ability to spot undervalued stocks in 2025. They help cut through the noise of financial statements and market hype, offering a structured way to analyze value and risk. By combining P/E, PEG, ROE, P/B, and D/E ratios with solid industry knowledge and a bit of skepticism, you’ll be better equipped to make smart investment choices that stand the test of time.
Keep in mind, no single ratio tells the whole story. Use them as complementary tools, keep an eye on market trends, and stay patient—finding undervalued stocks is as much an art as it is a science. Happy investing!