As a general rule, why is the PE ratio of small cap stocks greater than the PE ratio of large cap stocks? Is it just a coincidence? Or is there a reason?
The price of a stock contains the incorporated price rise expectations in the future. So a smaller company has a greater chances of increasing its earning potential than a large cap. You don't expect Microsoft to grow on year on year like when it was just starting up. Hence people see greater potential to grow in a small company and bet on it. Eventually the smaller company's P/E would also stop being so high, as it grows bigger and consolidates.
Effectively the numerator increases. While the denominator is a different phenomena. A smaller company, you would assume, in a growth phase has lesser earnings, which pushes up the P/E again. For an already existing behemoth the earnings are more or less consistent, unless they come out with some super product which would increase their earning and their stock prices but not as much as a smaller stock. To put in perspective a $1 rise in a $5 stock is much bigger and noticeable than a $1 rise in a $50 stock.