Description
The returns on the investment can be broken in to two parts., 1.Dividend yield-The reward investor gets by owing this asset over the holding period. Capital gain-The gain investor makes upon selling the asset after the holding period.
Equity Management Strategy
Return
? The returns on the investment can be broken
in to two parts.
? 1.Dividend yield-The reward investor gets by
owing this asset over the holding period
? 2. Capital gain-The gain investor makes upon
selling the asset after the holding period.
PRESENT VALUE OF THE RETURN
The return occurs at the end of the period. If it is to be expressed
at the beginning of the holding period, it has to be given in terms
of the present value .
P
0
= D
1
+ P
1
1 + r 1 + r
P
0
= Present Selling price
P
1
= Selling Price at the end of one year period
D
1
= The dividend received during the one year holding period
r = Investor’s required rate of return
CASE
? An investor holds shares of T.V.S. Suzuki from
13.01.2009 to 23.01.2010. The beginning and end
period prices are Rs.335 and Rs.421 . The dividend
paid is 3.50 . The investor can find out whether the
price he has to offer is suitable to his required rate
of return .
? Now, if the investor wants to get 20 per cent return
by holding T.V.S. Suzuki stock for a year , then find
out whether the purchase price is high or low and
what the investor should do?
Solution
? P
0
= 3.5 + 421
=
2.92 + 350.83
(1+0.20) (1+ 0.20)
= 353.75
The present value of the stock is Rs.353.74 . The
present stock price is Rs.335 which is lower than
the present value so the investor can buy it .
The investor can also find out the anticipated selling price for the
stock with his expected rate of return from holding the stock . His
expected return is 20 per cent .
P
0
= D
1
+ P
1
1+r 1 + r
Rs.335 = 3.5 + P
1
1 + ..2 1 + .2
Rs.335 = 2.92 + P
1
1.20
335- 2.92 = P
1
1. 2
332.08 X 1.2 = P
1
P
1
= 398.5
CONSTANT GROWTH MODEL
? In this model, the basic assumption is that dividends
will grow at the same rate (g) into an indefinite future
.
? When the period approaches in infinity the equation
takes the form
Po = D
1
r – g
P0 = Present Value of the stock
r = Required rate of return
g = The growth rate
D
1
= The next year dividend
Example
The company ABC’s next year dividend per
share is expected to be Rs.3.50. The
dividend in subsequent years is expected to
grow at a rate of 10 per cent per year . If the
required rate of return is 15 percent per year,
what should be its price ? The prevailing
market price is Rs.75 .
Solution
P
0
= D
1
r-g
D1 = 3.50
r = 0.15
g = 0.10
P0 = 3.5/.05= Rs.70
The investor would be willing to pay Rs.70 for the
share .Since the intrinsic value is less than the
market price, the investor is advised not to buy .
VALUATION THROUGH P/E RATIO
? Price-earnings ratios are used to estimate the
value of the stocks by the investors rather
than adopting the discounting models .
? Every financial magazine and the newspaper
at regular interval publish price earnings per
share .
? P/E ratio=Market price per share/ Earning per share
? If in a company EPS is rs 6 and price is rs 50 then
? P/E ratio =50/6=8.33
Comparison of the estimated P/E ratio
with the actual P/E ratio
? If current P/E ratio > Estimated P/E ratio ,the stock is over priced .It
is better to sell the share before the fall in price.
? If current P/E ratio < Estimated P/E ratio ,the stock is under priced .It
is better to buy the share with the expectation of rise in price.
? If current P/E ratio = Estimated P/E ratio ,the stock is correctly
priced . No significant changes in prices are likely to occur.
WHITBECK KISOR MODEL
The P/E ratio can be related to concerned variables by using multiple
regression technique .
Whitbeck Kisor has developed the following model
P/E = f {growth rate of earnings g, dividend
payment rate D/E ,risk in the growth rate (standard deviatation)}
They took 135 stocks and estimated the relationship between P/E and
the above mentioned variables . The results are given below .
P/E = 8.2 + 1.5g + 0.067 D/E – 2.0 s.d
This equation indicates the impact of all the three variables on the P/E
ratio and consistent with the model
D/E
P/E = --------
r – g
? All the three variables in the multiple
regression are associated with the above
mentioned equation . The coefficients of the
equation indicate the weights of the variables
on the P/E ratio . The signs show the
direction of impact of the particular variable
on the P/E ratio . One per cent increase in
the standard deviation of growth rate would
cause 2.0 unit decrease in the P/E ratio.
?
Further, the equation indicates that 1 per cent increase in
earnings’ growth would cause 1.5 unit increase in the
P/E ratio .One percent increase in dividend payout ratio
would result in 1.5 unit increase in the P/E ratio .
Thus , the equation indicates higher growth, higher
dividends and lower risk would lead to high P/E ratio and
vice versa . With the help of the Whitbeck Kisor model,
the analyst can calculate the theoretical value of the P/E
ratio and compare it with actual value .
The model is sample sensitive . The co-efficient of the
particular period and sample may not give correct
estimation of P/E for another period .
Example :
Company ‘A’, s stock growth rate is 15 per
cent, its dividends pay out ratio is 40 per cent
and its standard deviation in the growth rate
is 5 per cent .The value of the P/E ratio is
22.5 per cent . The price of the share is rs
100.On the basis of Whitbeck Kisor’s model,
what is your advice ?
Solution
? P/E = 8.2 + 1.5g + .067 d/e – 20 sd
The values have to be substituted
P/E = 8.2 + 1.5(.15) + .067(.40)-.2(.05)
= 8.2 +.225 + .0268- 0.1
=8.35
? If current P/E ratio < Estimated P/E ratio ,the stock is under priced .It
is better to buy the share with the expectation of rise in price.
Here The current value of the P/E ratio is below the estimated
value .So the stock is under priced .It is better to buy the share with
the expectation of rise in price.
doc_172665727.ppt
The returns on the investment can be broken in to two parts., 1.Dividend yield-The reward investor gets by owing this asset over the holding period. Capital gain-The gain investor makes upon selling the asset after the holding period.
Equity Management Strategy
Return
? The returns on the investment can be broken
in to two parts.
? 1.Dividend yield-The reward investor gets by
owing this asset over the holding period
? 2. Capital gain-The gain investor makes upon
selling the asset after the holding period.
PRESENT VALUE OF THE RETURN
The return occurs at the end of the period. If it is to be expressed
at the beginning of the holding period, it has to be given in terms
of the present value .
P
0
= D
1
+ P
1
1 + r 1 + r
P
0
= Present Selling price
P
1
= Selling Price at the end of one year period
D
1
= The dividend received during the one year holding period
r = Investor’s required rate of return
CASE
? An investor holds shares of T.V.S. Suzuki from
13.01.2009 to 23.01.2010. The beginning and end
period prices are Rs.335 and Rs.421 . The dividend
paid is 3.50 . The investor can find out whether the
price he has to offer is suitable to his required rate
of return .
? Now, if the investor wants to get 20 per cent return
by holding T.V.S. Suzuki stock for a year , then find
out whether the purchase price is high or low and
what the investor should do?
Solution
? P
0
= 3.5 + 421
=
2.92 + 350.83
(1+0.20) (1+ 0.20)
= 353.75
The present value of the stock is Rs.353.74 . The
present stock price is Rs.335 which is lower than
the present value so the investor can buy it .
The investor can also find out the anticipated selling price for the
stock with his expected rate of return from holding the stock . His
expected return is 20 per cent .
P
0
= D
1
+ P
1
1+r 1 + r
Rs.335 = 3.5 + P
1
1 + ..2 1 + .2
Rs.335 = 2.92 + P
1
1.20
335- 2.92 = P
1
1. 2
332.08 X 1.2 = P
1
P
1
= 398.5
CONSTANT GROWTH MODEL
? In this model, the basic assumption is that dividends
will grow at the same rate (g) into an indefinite future
.
? When the period approaches in infinity the equation
takes the form
Po = D
1
r – g
P0 = Present Value of the stock
r = Required rate of return
g = The growth rate
D
1
= The next year dividend
Example
The company ABC’s next year dividend per
share is expected to be Rs.3.50. The
dividend in subsequent years is expected to
grow at a rate of 10 per cent per year . If the
required rate of return is 15 percent per year,
what should be its price ? The prevailing
market price is Rs.75 .
Solution
P
0
= D
1
r-g
D1 = 3.50
r = 0.15
g = 0.10
P0 = 3.5/.05= Rs.70
The investor would be willing to pay Rs.70 for the
share .Since the intrinsic value is less than the
market price, the investor is advised not to buy .
VALUATION THROUGH P/E RATIO
? Price-earnings ratios are used to estimate the
value of the stocks by the investors rather
than adopting the discounting models .
? Every financial magazine and the newspaper
at regular interval publish price earnings per
share .
? P/E ratio=Market price per share/ Earning per share
? If in a company EPS is rs 6 and price is rs 50 then
? P/E ratio =50/6=8.33
Comparison of the estimated P/E ratio
with the actual P/E ratio
? If current P/E ratio > Estimated P/E ratio ,the stock is over priced .It
is better to sell the share before the fall in price.
? If current P/E ratio < Estimated P/E ratio ,the stock is under priced .It
is better to buy the share with the expectation of rise in price.
? If current P/E ratio = Estimated P/E ratio ,the stock is correctly
priced . No significant changes in prices are likely to occur.
WHITBECK KISOR MODEL
The P/E ratio can be related to concerned variables by using multiple
regression technique .
Whitbeck Kisor has developed the following model
P/E = f {growth rate of earnings g, dividend
payment rate D/E ,risk in the growth rate (standard deviatation)}
They took 135 stocks and estimated the relationship between P/E and
the above mentioned variables . The results are given below .
P/E = 8.2 + 1.5g + 0.067 D/E – 2.0 s.d
This equation indicates the impact of all the three variables on the P/E
ratio and consistent with the model
D/E
P/E = --------
r – g
? All the three variables in the multiple
regression are associated with the above
mentioned equation . The coefficients of the
equation indicate the weights of the variables
on the P/E ratio . The signs show the
direction of impact of the particular variable
on the P/E ratio . One per cent increase in
the standard deviation of growth rate would
cause 2.0 unit decrease in the P/E ratio.
?
Further, the equation indicates that 1 per cent increase in
earnings’ growth would cause 1.5 unit increase in the
P/E ratio .One percent increase in dividend payout ratio
would result in 1.5 unit increase in the P/E ratio .
Thus , the equation indicates higher growth, higher
dividends and lower risk would lead to high P/E ratio and
vice versa . With the help of the Whitbeck Kisor model,
the analyst can calculate the theoretical value of the P/E
ratio and compare it with actual value .
The model is sample sensitive . The co-efficient of the
particular period and sample may not give correct
estimation of P/E for another period .
Example :
Company ‘A’, s stock growth rate is 15 per
cent, its dividends pay out ratio is 40 per cent
and its standard deviation in the growth rate
is 5 per cent .The value of the P/E ratio is
22.5 per cent . The price of the share is rs
100.On the basis of Whitbeck Kisor’s model,
what is your advice ?
Solution
? P/E = 8.2 + 1.5g + .067 d/e – 20 sd
The values have to be substituted
P/E = 8.2 + 1.5(.15) + .067(.40)-.2(.05)
= 8.2 +.225 + .0268- 0.1
=8.35
? If current P/E ratio < Estimated P/E ratio ,the stock is under priced .It
is better to buy the share with the expectation of rise in price.
Here The current value of the P/E ratio is below the estimated
value .So the stock is under priced .It is better to buy the share with
the expectation of rise in price.
doc_172665727.ppt