Look yourself in the mirror!

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To whoever conveyed recently his or her doubts – during a seminar – about how ‘in practice things look differently in comparison with how simple you’ve put them in theory’ expressing hesitation about the conclusions on the dividend yield-price earnings ratio relationship, I’d like to draw his or her attention to the following chart depicting, on a log-10 scale, this empirical finding about 680 stocks listed on the shown markets, on two different trading days (March 20 and November 30, 2013).

dy-pe relationship

This morning – during a webinar – I demonstrated this financial relationship using this empirical finding to highlight that the higher the PE (price-earnings) ratio the lower the DY (dividend yield). Should the analytically inclined reader like to see where it comes from, the following equation should do the trick:

\frac{d}{P} = \textrm{po} \cdot \frac{E}{P}      [1]

where in [1] d is the dividend, P is the current stock price, E stands for earnings-per-share, and po is the pay-out ratio (i.e. the percentage of earnings payed out as dividends).

\textrm{DY} \propto \frac{E}{P}      [2]

The empirical relationship is shown in [2], where DY must be ‘proportional’ to E/P. Dividend yield and price-earnings ratio must obviously look like one another seen on a mirror. Who has doubts, come forward.

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