What is Earnings Yield?
Earnings Yield represents the percentage of a company’s earnings relative to its share price. It shows how much a company earns for every dollar invested in its stock and is often used as the inverse of the price-to-earnings (P/E) ratio.
Definition
Earnings Yield is a valuation metric calculated by dividing a company’s earnings per share (EPS) by its current share price.
Key Takeaways
- Inverse of P/E: A higher earnings yield indicates a potentially undervalued stock.
- Comparative tool: Useful for comparing equities to bonds and other asset classes.
- Risk indicator: Low yield may suggest overvaluation or future earnings uncertainty.
Understanding Earnings Yield
Investors use Earnings Yield to assess whether a stock is attractively priced relative to its earnings. It provides a more intuitive comparison to fixed‑income investments such as government bonds.
For example, if a stock has a 6% earnings yield while government bonds pay 3%, the stock may offer better return potential—assuming similar risk levels.
Earnings Yield is also helpful when comparing companies across different industries, especially where growth profiles and capital structures differ.
Formula
Earnings Yield Formula:
Earnings Yield = EPS / Share Price
OR
Earnings Yield = 1 / P/E Ratio
Variables:
- EPS: Earnings per share.
- Share Price: Current market price per share.
- P/E Ratio: Price divided by earnings.
Real-World Example
Company A:
- EPS: $4
- Share Price: $50
Earnings Yield = $4 / $50 = 0.08 = 8%
This means investors earn 8 cents for every dollar invested.
Importance in Business or Economics
- Valuation insight: Helps identify undervalued or overvalued stocks.
- Portfolio allocation: Supports decisions between equities and bonds.
- Risk assessment: Lower yields can signal higher valuation risk.
- Macroeconomic comparison: Linked to interest rate environments and inflation expectations.
Types or Variations
- Trailing Earnings Yield: Based on past 12‑month earnings.
- Forward Earnings Yield: Based on projected upcoming earnings.
- CAPE Earnings Yield: Based on cyclically adjusted earnings.
Related Terms
- P/E Ratio
- EPS
- Dividend Yield
Sources and Further Reading
- Investopedia – Earnings Yield
- Corporate Finance Institute (CFI)
- Financial Times Lexicon
- Morningstar – Valuation Metrics
Quick Reference
- Core Formula: EPS ÷ Share Price
- Focus: Earnings return per dollar invested
- Use Case: Valuation comparison against bonds or other equities
Frequently Asked Questions (FAQs)
Why use earnings yield instead of the P/E ratio?
It provides a percentage return format similar to interest rates, making comparisons easier.
Is a higher earnings yield always good?
Not always—high yields can result from falling share prices due to underlying business issues.
How does earnings yield compare to bond yields?
It allows investors to weigh equity returns against fixed‑income returns for allocation decisions.
