SOURCES OF RETURNS FROM EQUITY

Two Sources of Equity Returns:

Fundamental

Speculative

Fundamental:

The Fundamental element concerns theearnings behind the enterprise along with thedividend paid out during the holding period.

Speculative

The Fundamental element concerns thechanges in the appraisal of the currentperformance and prospective profitability bythe market participants.

Hypothetical Study: Growth in Earnings

Company Name: ABC Ltd.,

EPS: Rs.12

PE Ratio: 20

Stock Price: Rs.240

What is a P/E Ratio?

The Price to earnings (P/E) multiple or ratio is probablythe most popular indicator used by investors forvaluing stocks.

It is the number of times investors must pay for thecompany’s current earnings.

For Example, assume that the share price of a company is Rs.80.if its EPS is, says Rs.5, its P/E is 16. So investors are willing to pay16 times for every rupee of the company’s earnings

P/E ratio to figure out if a company’s stock is CHEAP orEXPENSIVE, you can compare one to another Company

P/E Ratio:

Stable PE Ratio

PE Ratio Expansion

PE Ratio Contraction

Stable P/E Ratio:

Fundamental - 20%

Speculative - Nil

Total Return - 20%

EPS: Rs.12 ; PE Ratio: 20;Stock Price: Rs.240

P/E Ratio Expansion:

Fundamental - 20%

Speculative - 30%

Total Return - 50%

Speculative: ((EPS at the end of the Year)*(change in PE Ratio))/ Price Paid

EPS: Rs.12; PE Ratio: 25;Stock Price: Rs.300

P/E Ratio Contraction:

Fundamental - 20%

Speculative - -30%

Total Return - -10%

Speculative: ((EPS at the end of the Year)*(change in PE Ratio))/ Price Paid

EPS: Rs.12; PE Ratio: 15;Stock Price: Rs.300