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Price-Earnings Ratio vs. Earnings Yield Ratio
What is Earnings Yield Ratio?
Earnings Yield is the reciprocal of Price-Earnings, and it is expressed as a percentage. Earnings yield is the earnings per share divided by the market price of each share multiplied by 100. Earnings yield ratio offers an insight to the earning power of a share. If the earnings yield of a share is 5%, it means that there is an earning of Rs 5 per 100 rupees of shares owned by an investor.
Earnings yield offers investors to check the future earnings of not only shares, but also of bonds, debentures and bank fixed deposits etc.
For example, an investor can check the earnings yield in different securities, such as bonds that yield 6% and fixed deposits that offer 7.5% of yield.
Earnings per share is important because it shows the relative strength of a company. If the amount of EPS is higher, the value of earnings yield would go up while the value of P/E will go down. This means that the company that has a higher P/E value would have lower earnings yield and vice versa.
What is Price-Earnings (P/E) Ratio?
The P/E ratio is the relationship between the stock price of the share and its earnings (EPS). It helps investors calculate the value of a company. Investors often want to know how profitable the company and how profitable it would be in the future. When earning is stagnant and P/E does not grow, the value of P/E indicates the time the company would require to pay back the amount paid per share.
On the contrary, P/E tells how much an investor has earned from their stock of shares he owns. Earnings yield helps the shareholders realize if the shares are yielding as much as the other shares in the same industry. The P/E, on the other hand, determines whether the stock is trading at a discount or premium value in the markets. In other words, P/E shows whether a stock is under or overvalued.
The calculations of Price-Earnings Ratio (P/E) and Earnings Yield Ratio are done using the following formulas −
$$\mathrm{P/E\, =\, \frac{Market\: Price\: per\: share}{Earnings\: Per\: Share} }$$
$$\mathrm{Earnings\: Yield \, =\, \frac{Earnings\: Per\: Share}{Market\: Price\: per\: Share} \times 100}$$
Basic Differences in Usage of Price-Earnings (P/E) Ratio and Earnings Yield Ratio
Although P/E and Earnings yield are just reciprocals of each other, they are used to calculate various different measurements related to finance.
Valuation of the Company Vs Value Earned from Stock
The Earnings Yield ratio is usually used to measure the valuation of the company. If the value of Earnings Yield of a company is more than another firm’s yield, then the value of the former company is more than the latter. The P/E of a company, on the other hand, determines the value earned from each stock.
When the P/E of one company is higher than another company’s P/E, the earnings of each share of the former is more than the latter’s each share. Therefore, the former is a better option for the investors to earn premiums from the more profitable share.
- Comparisons of Yields
Comparing the yields of different companies may provide a better idea about the potential of a company to sustain long-term growth. However, it must also be noted that the yields of different industries vary widely.
Conclusion
The returns in shares may be more in the case of shares than fixed deposits, but shares may also be riskier than fixed deposits. Therefore, the types of instruments are another factor to be considered.
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