Often the most conventional ratios may not allow you to gauge the right earnings from the share market For that, you may need to use another ratio—the earnings yield ratio.
Earnings yield is the inverse of price to earnings (PE). If PE is 10, then the earnings yield would be 1/10. In percentage terms, the earnings yield would be 10%.
A few quick checks will show you that lower PEs result in higher earnings yields.
You can also find it by dividing the earnings per share by the current price of a share. In the above example, if Rs 10,000 is invested, the earnings will be Rs 1,000.
You can use earnings yield to compare earnings from investments in government securities, bank fixed deposits, and the like. Suppose you are earning 7% on government securities. You could earn more than this amount when investing in stocks.
Let’s cite an example. If the PE ratio is 10, your earnings would be 10% in the stock market. This is 3% more than what you have been earning from other investments. If the PE ratio is 7, the earnings would be 7.1% more. This difference is the risk premium.
Earnings yield does not cover factors like future growth, business prospects, sectoral factors, and performance of the overall economy. These need to be analysed separately. It’s also important not to confuse dividend yield with earnings yield.
Related: How to profit in a bear market
You may get a clearer idea about stock movements if you follow the share market live. Earnings yield is the best way to calculate earnings from the market. It could help you to take more calculated and tactical investment decisions in future.
While you’re at it, open an account with Kotak Securities. You will get investment guidance from industry experts along with up-to-date market reports and research.
0 people liked this article.