Information Fact

The PER or P/E or Price Earnings Ratio is the quotient between the price of the stock market action and the earnings per share. Normally in order to calculate the price earnings ratio, the benefit that is hoped for throughout the course of the year is used, although it is also common to calculate it with last benefit. This is used simplistically to value a company or establish what a company's stock should be worth.

The price earnings ratio tells us how many dollars we pay for each dollar of benefit that the company promises. In theory, the less we pay the better it is. The price earnings ratio is also the inverse of the profit that the action promises, since the earnings per share are the hoped for benefit of the action (assuming the BPS is constant throughout the years) and is also the inverse of the price earnings ratio. In other words, if we buy a share of a price earnings ratio of 10, we are hoping for a yield of 10 by 100, if we buy it from the price earnings ratio of 20, we will be hoping for a yield of 5 by 100.

The price earnings ratio gives us a first idea about how expensive or cheap a share is or an entire stock. Habitually, the agents compare the price earnings ratio of shares from the same sector and from the same stock to see which is the cheapest. The price earnings ratio is also used along with a stock in order to compare it with another and see which market is more attractive. The price earnings ratio is simply instrument of appraisal of stock; therefore, to start to understand it we need to go back to the first principles of appraisal of stock based on the discount of flow and in order to do that we first need to talk about the value of money at the time.

We have already looked at that if an investor wanted to obtain a profit of 10 for 100, he or she would be willing to pay a maximum price earnings ratio of 10; and if he or she conformed to a profit of 5 for 100, he would be willing to pay a price earnings ratio of 20. The profit demanded by the investor depends on the risk free profit, or in other words, of the profit the investor can obtain with complete security (without risk) investing in a treasury bill, deposit, money fund, state bond or something similar etc. If the people invest in the exchange, it is because they hope to obtain a higher profit than the fixed income. In other words, the profit that the investor hopes to obtain will be the same to the risk free profit plus a premium of risk. Today we are going to take care of the risk free profit that comes about by the types of interest of the fixed income.

At first, the higher the type of interest, the greater the profit the investor asks for will be, and therefore, the price earnings ratio he is willing to pay for the share will be less. And the other way around, the least type of interest, the higher price earnings ratio the investor will be willing to pay.