Determinants of Price-Earnings Ratio: The Case of Chemical Sector of Pakistan

Price-to-Earnings (P/E) ratio, a relative valuation technique has always remained at the centre of attention of market analysts and investors ever since the origin of discounted dividend growth model of Gordon and Shapiro (1956). The present study attempts to identify the factors explaining variations in P/E ratio for chemical sector of Pakistan by using Ordinary Least Square (OLS) regression on pooled data of 25 firms listed at Karachi stock exchange for the period 2005 to 2009. Furthermore, taking into account the volatility in Pakistani stock market during the study period, a time-series analysis has also made by using OLS regression model to examine whether determinants of P/E ratio differ across years or not. Results demonstrate that Dividend payout ratio and Tobin’s Q remain the most important determinants of P/E ratios for pooled as well as time-series analysis. The study is expected to facilitate decision makers to evaluate factors that explain variations in firm’s P/E ratio in order to attract investor’s attention and raise their confidence to select these firms in their portfolios.