assessment of a share By Dr. Dietrich Meinert
the following factors:
This is the
relationship between the company's own money and
outside money, also called debt-equity ratio.
In calculating this
ratio, one takes the figure for long-term
liabilities, plus the figure for amounts due to
bankers and short-term loans and other liabilities excluding
deferred tax. The result of that figure is then
expressed as a percentage of the interest of members
of the company.
Gearing also shows the
degree of flexibility of a company: If the gearing
ratio is relatively low, then the group has borrowing
facilities to finance opportunities that may arise
from time to time.
A highly geared
company will make more profits in good economic
times, but if it is too geared and the economy turns
down, there is a greater risk of a collapse.
A company that makes a
long-term investment on short-term borrowed money is
taking a large risk because the short-term lender can
call in his money and leave the company holding the
should increase by no less than the inflation rate
otherwise it reflects a danger signal in that it
shows that business is going backwards in real terms.
Dividend yield &
However the most
important indicators in the assessment of a share,
are the Price/Earning (PE) ratios - or Earnings Yield
(EY) - and the Dividend Yield (DY).
Bull and bear phases
During a bull
run the PE is favoured and during a bear phase
the DY becomes the "braking pedal" as it
The PE ratio is
calculated by dividing the ruling price by the
Earnings Per Share (EPS) or, alternatively, 100
divided by the EY of a share.
General guidelines to
assess a share according to the PE or EY are:
under 10 highly
recommended 10 over
10 worthwhile 10
14 - 15 normal 6.7 - 7
over 15 expensive 6.7
Exception to the above
guidelines are expandingeloping companies and, of
A PE of, say, 6.8
means that if earnings were to remain static over the
foreseeable future it would take nearly 7 years to
repay your investment out of earnings.
The Dividend Yield
(DY) of a share is calculated by dividing the
dividends declared over the past year by the current
share price * 100. It is an important measure of the
interesting indicator is the Dividend Cover. Here one
divides the dividend per share into the earnings per
share - or EY divided by DY.
A high Dividend
Cover gives confidence that the dividend can be
maintained when there is a downturn in earnings. So,
for example, a Dividend Cover of 2 or more can be
regarded as a healthy figure.
Another strategy that
could be considered when assessing a share is the
Discount Rate. If the DY of a share stood at a
discount of 20% to the 12-month interest rate offered
by banks/building societies, on buying, that share
should be regarded as fairly prices. To be on the
safe side, 10-15% would be better.
As an example, just
before the big crash in 1969, banks and building
societies offered 6.5% for 12-month investment
periods, whereas shares in the top class range only
offered a DY of around 1.3% - a Discount Rate of 80%!
The formula to
calculate the discount rate is:
100 - (DY divided by
the 12-month interest rate * 100)
In hindsight it would
have been prudent to bail out of such shares when the
Discount Rate stood between 70 - 75%.
Last but not least, is
to assess whether a share is Overbought or Oversold.
A good way of doing this is to divide today's ruling
price with that of 40 trading days ago and if the
result is 0.8 or less, then the share is Oversold: if
it 1,25 or more, then the share is Overbought.
However it is recommended that this indicator should
only be used as an additional point of interest.
investors should select shares for purpose and
thrust. Strictly avoid a mere collection
of shares (even of the so-called 'blue chip' shares)
and I strongly recommend investors to buy shares
according to portfolio percentage range/ratios.
I also advise investors to limit a portfolio to not
more than 20 shares. Statistically it has been
proven, that spread will cover all the general risks.
Stock Exchanges tend
to move in cycles but irrespective of how circumspect
one invests, no shares will escape the ravages during
a crash! However, this does not mean that the shares
one holds are necessarily "bad" shares and
in time they should recover to new heights.
To decide when
to buy or sell a share depends on timing and
the best way to assess this, investors should use a
share analysis program on their computer.