The best thing about Earnings Yield, as opposed to P/E, is that we can compare it with alternative investments such as fixed deposits, to see what kind of a return we can expect from an investment.
Earnings Yield Ratio = Earnings Per Share / Current Market Price
If the bank FD rate is 6% and you put Rs 100 in it. Then the bank will give you Rs 6 as interest. In other words, for every Rs 1 you put in Bank FD, the bank is earning Rs 0.06 for you. (6/100 = 6% earnings yield).
Likewise, if the company is making Earnings per share of Rs 100 and the Market Price is Rs 1000, the earnings yield is 10%( 100/1000).
This means, if you buy this company, for every Rs 1 you invest, this company will be earning Rs 0.1 for you.
How to use practically
Look for companies that have high earnings yield and compare it with many other asset classes you intend to invest in. Make sure that, earnings are not cyclical in nature and Net Profit Margins are stable. The beauty of this metric is you can compare this metric with various asset classes across various time periods.
Time to Test your Knoweldge
Link: Day 1 Activity