The PE Ratio is a popular metric in evaluating a stock’s buying attractiveness. This post will serve as a useful guide for investors in understanding the current Nifty PE Ratio. Additionally, we’ll examine how price earning ratios have moved over the last 20 years and the correlation between NIFTY 50 returns & PE Ratio
What is covered in this article?
Today’s NIFTY 50 PE Ratio
The current NIFTY PE ratio, PB ratio, Dividend Yield Ratio and the Average PE ratio (from 2000 to 2020) are –
NIFTY PE Ratio Chart
The above Nifty PE chart shows the movement of the PE Ratio over the years with a long term average of approx 20. At the time of writing this article, the Nifty PE Ratio Today is at and around the long term average
The NIFTY 50 Index comprises of 50 of India’s largest listed companies. The index comprising about 65% of the overall market capitalization of the Indian stock exchanges.
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Price Earning Ratio and Stock Market Returns
Investors often use PE ratio levels as a substitute to determine the expensive or cheap nature of the stock markets.
In the below tables, I have mapped the returns over a 1 year, 3 year and 5 year time period. This will help understand Nifty returns over the years when the index purchases are made at particular PE ratios.
Nifty PE Ratio & NIFTY 50 Returns over 1 Year rolling period (2000 to 2019)
Over the last 19 years, the Nifty PE Ratio of less than 12 was available for only seven months. And on these occasions, the stock market gave returns of 30% or more over the next one year
Let’s see what happens when the PE Ratio goes over 25.
In these situations, the stock market has delivered an annual return of sub-10% in 75% occasions. The Nifty PE ratio went above 25 in 24 months. And 18 times, the 1 year returns were below 10%.
Thus, everytime the Nifty has delivered over 20% annual returns, the PE Ratio at the time of purchase was less than 25
If history were to be believed, at the current PE Ratio, the chance of the index making you 10% or more returns is very bleak.
Nifty PE Ratio & NIFTY 50 Returns over 3 Year rolling period (annualised)
Some notable observations –
When the Index is purchased at a PE Ratio of less than 16, three-year returns were high. The three-year annualized returns were in the range of +20% and +39%
OK. What about the other end?
Sure. On the other end, purchases made at PE Ratio >=25 have never yielded an annualized return of 10% or more.
At the current PE Ratio, the historical data shows that any investment on the Nifty 50 is likely to make you returns in the low single-digit or even negative returns
Nifty PE Ratio & NIFTY 50 Returns over 5 Year rolling period (annualised)
Purchase of the Nifty made when the PE ratio was less than 16 has been hugely profitable. On every occasion it has resulted in an annualized return of over 10% over a five-year period with an average annualized return of 22.4%
What does this mean?
For any investment made at the current PE Ratio, one can expect to achieve yearly returns in the low single-digits with a very small possibility of making negative returns over a five-year period.
What is the meaning of PE Ratio?
PE Ratio or Price-Earning Ratio means the amount of money you are paying for one rupee of earnings or profit.
So when someone says “this stock is at a PE of 25”, it means that the price of one share of that company is 25 times the profit per share that it earns.
The formula for calculating PE Ratio is –
[Price of the share] divided by [Net Profit per share]
The PE ratio is the most popular metric in evaluating a stock’s buying attractiveness.
As a thumbrule, a company available at low PE ratios is a better bet for capital appreciation as compared to a business operating at high PE ratio.
Are you sure?
🙂 .. well you are correct. This is not a firm rule.
Investors should always prefer companies which have better business prospects. A great business at an acceptable PE ratios is better than investing in poor businesses at low PE ratios.
For a better insight on this quality v valuation debate, please do read my post on Axis Focused 25 Fund. Here I explain why the fund manager does not shy away from high PE companies as long as the business has high growth prospects
There are two types of PE Ratios that investors should be aware of –
- Trailing PE Ratio. This uses the prior 12 months of earnings in its calculation. The earning numbers are available in the profit & loss statement of the company which can be accessed on their website.
- Forward PE Ratio. This metric refers to the expected earnings of the company over the coming 12 months. This is a projected number and only as an indicator.