Term:PRICE:EARNINGS RATIO [P:E]

The market price of a share divided by its most recent average annual earnings per share. This gives the reciprocal of the “earnings yield”, and is used by some investors to compare shares with other shares and other investment types. The PE ratio, also known as the “earnings multiple”, is not much used in South Africa but is common overseas where the earnings yield is unknown. The P:E gives a good idea of the share’s “rating”. Highly-rated shares are those which have had steadily rising earnings for many years. Investors (especially institutional investors) are willing to pay much more for 100c of their earnings than for the same 100c in annual earnings from a company whose profits are erratic and unreliable. This means that their share price will be higher in relation to their profits. When a share has a high earnings multiple, we say that the earnings are of “good quality” – because they are likely to be repeated and increased in future years.

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