Pe ratios, peg ratios, and prediction of rate of Equity returns: a case of companies listed on the Nairobi Security Exchange
Abstract
The stock market is a primary capital market through which companies and other
institutions can raise funds by issuing shares or loan stock but is more important as a
secondary market for existing securities. The Study thus seeked to provide empirical
evidence on whether the widely held beliefs of the predictability of the PEG and the PE
ratios holds true in the emerging markets. It further aimed to test whether the correlations
improves when both ratios are used in prediction of abnormal equity
returns.Specificobjective of the study was to investigate the relationship between price
earnings ratios (PE) and stock returns establish any correlation existing between PEG and
stock returns and to compare predictability power of PE and PEG on stock returns. The
theories supporting these are Technical analysis theory and Market efficiency theory. The
problem was studied using the causal research design. The population of interest in this
study consisted of firms listed in the Nairobi Securities Exchange from which samples of
seventeen companies wereselected.Secondary data was collected from NSE.Regressiion
model was used to analyse the data. Findings fromthe study revealed that strong
correlation between PE and PEG ratios existesd. It was determined that the two ratios
cannot be reliably used to predict stock returns. R Square showed that 9% of the
variations in stocks returns could be explained by the explanatory variables and 91% of
the variations in stocks returns are unexplained and are taken by error term. The Betacoefficient
of PE ratio to Stock returns is 0.206 which is insignificant given a P- Value of
0.763 whereas the cut offP-Value is 0.05 .This can be interpreted as an increase of 1 unit
in PE will not significantly increase Stock returns. Similarly the Beta-coefficient of PEG
to Stocks returns is 0.115 which is insignificant given a P-Value of 0.867 whereas the cut
off P-Value is 0.05. This can also be interpreted as an increase of 1 unit in PEG will not
significantly increase Stock returns. The Study agreed with other studies in developed
stock markets and provided empirical evidence on widely held beliefs of the
predictability of the PEG and the PE ratios in an emerging market. The findings of the
study have considerable importance to directors of companies who wish to provide
satisfactory returns to their shareholders
Citation
Master of Business AdministrationPublisher
Unversity of Nairobi