Is a higher earnings yield better?

A higher earnings yield means you pay less for each dollar of current earnings, so the stock is cheaper on that measure. It can also mean the market expects those earnings to shrink. Check why the yield is high before treating it as a bargain, starting with the trend in earnings and any guidance.

How do you calculate earnings yield from the P/E ratio?

Divide 1 by the P/E and express the result as a percentage. A P/E of 25 gives 1 / 25 = 4%. A P/E of 10 gives 10%. The answer is the same as dividing earnings per share by the share price, since the P/E is just that fraction flipped over.

Earnings Yield: The P/E Ratio Turned Upside Down

Flip a P/E of 20 and you get 5%. That one-line sum is all an earnings yield is, and it turns the multiple on the quote page into a rate you can set beside the yield on a bond, a savings account, or another stock with very different earnings.

Most quote pages show P/E and EPS, and fewer show the yield directly. You can build it from either field.

The sum

A hypothetical company earned $4.00 a share over the past year. The stock trades at $80.

Read it as the earnings each dollar of stock is currently producing. Each $100 of stock earned $5 last year. You do not receive that $5. Some may be paid as a dividend, some reinvested, some spent on buybacks, and some lost to a bad acquisition, but it is the pool that all of those come from.

Between two stocks, the yield reads more naturally too. A P/E of 40 is a 2.5% earnings yield. A P/E of 12.5 is 8%. Those percentages tell you straight away that the second stock earns about 3.2 times as much per dollar invested, since 8 divided by 2.5 is 3.2, a comparison that the raw multiples make you invert in your head before you can see it.

Against a bond yield

The appeal of the inverse is comparison. Suppose a hypothetical Treasury yields 4%.

A wider gap means stocks are cheaper relative to bonds on this measure. A shrinking gap means less pay for stock risk.

Where P/E breaks and yield keeps going

P/E falls apart when earnings approach zero. A company earning $0.10 on a $50 stock has a P/E of 500, and one losing money shows “n/a” or a negative number that quote pages often hide. Earnings yield keeps counting.

Now every company in a screen sits on one continuous scale, running from negative through small to large, and you can sort by it, which you cannot usefully do with a P/E column where some cells read 500, some are blank and some are 8.

Trailing or forward

The figure changes with the earnings you feed it. Trailing earnings are the last four reported quarters. Forward earnings are analysts’ estimates for the coming year. Use forward EPS of $5.00 on the same $80 stock and the yield is $5.00 / $80 = 6.25%, well above the trailing 5.0%, and nothing about the company changed between the two calculations except the assumption. Quote pages differ in which they show. Labels can be vague.

What people get wrong

A high earnings yield gets read as cheap. It may be cheap. It may also be the market pricing in a fall in profits that has not shown up in trailing EPS yet.

Earnings yield also gets mistaken for a cash return. It is an accounting figure. Cash flow can differ.

For a fuller valuation, earnings yield is a starting point. The lesson on valuation multiples sets it beside other ratios, and the course what’s it actually worth goes on to cash flow models, where terminal value often carries much of the answer. Working backward from the price, as argued in run a reverse DCF before you build the forward one, asks the same question from the other side. More sits under investing.