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1 November 2011. The earnings yield for a company is the earnings per share divided by the share price, and gives an idea of the investment return that a company is generating. Everything else being equal, a company with a higher earnings yield is more attractive than one with a lower earnings yield.

It's important to bear in mind that company profits are cyclical (some more than others). Consider a company with the following earnings per share:

If the share price at the moment is 100, then the company has an earnings yield of 10%, but this only reflects the earnings yield at the high in its earnings in 2011. A more realistic estimate of its earnings yield may be to divide the average earnings by the price, which in this case it would be 6% (unless you had a strong reason to suspect that earnings history before 2011 was irrelevant).

Nine year trailing earnings yields

Here's a graph of the earnings yield on the Johannesburg Stock Exchange, based on the average of the previous 9 years earnings (adjusted for inflation). We can see that the 9 year trailing earnings yield is looking pretty low compared to its history, almost a standard deviation below the average. Of course it could drop lower still, as was seen in 2007. And some may argue that we've reached a permanent higher level of earnings and the past isn't relevant. But for the defensive investor these low earnings yields signal a time for caution.

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