Price-Earnings and Price-to-Book Benchmark Techniques as Predictors of Equity Returns in India.

Abstract

Among the different benchmark techniques used by investors to determine the relative merit of equities, while the price-earnings' is a favourite, recent studies report the overriding importance of the book value. Hence this study explores the comparative ability of the two techniques namely price-earnings ratio and price-to-book ratio, in reaping superior equity returns in India. The study considers 80 companies listed in Bombay Stock Exchange for a period of 8 years from 2001 to 2008 and identifies an inverse association between the benchmark ratios and the equity returns in India, which magnifies as the duration of investment period expands. On the basis of the lowest and highest rank of benchmark ratios value and glamour portfolios were constructed respectively. Comparing the annualised returns of these portfolios, the study concludes that though both the benchmark techniques are capable of identifying the value stocks that can earn significantly higher returns; the price-to-book is rather a superior technique in India.

Keywords: Benchmark Valuation Techniques, Equity Investment Strategy, Price-to-book Ratio, Price-Earnings Ratio, Valuation Ratios.