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Sarine Technologies Ltd’s Shares Are Up 15.3% in 1 Year: Here’s What Happened

Diamond manufacturing systems provider Sarine Technologies Ltd (SGX: U77) had climbed by 15.3% over the past year.

Why did that happen?

A simple framework

To help with this, I would like to defer to a couple of paragraphs from The Little Book that Builds Wealth by author and fund manager Pat Dorsey:

“Over long stretches of time, there are just two things that push a stock up or down: The investment return, driven by earnings growth and dividends, and the speculative return, driven by changes in the price-earnings (P/E) ratio.”

“Think of the investment return as reflecting a company’s financial performance, and the speculative return as reflecting the exuberance or pessimism of other investors.”

Under Dorsey’s framework, a stock’s price returns can be made out entirely of the investment return component, entirely of the speculative return component, or a mixture of both components.

For the Foolish investor, understanding the right reason is important. If we can determine the reason, we may get an inkling on whether the movement in a stock’s price is deserved or undeserved.

Deciphering the moving pieces

We can track the investment or speculative components of a stock’s return by noting down changes in its financial metrics such as its earnings per share (EPS) and price to earnings ratio (PE ratio). On a related side note, such notes could also be a simple way for you to track the progress of a company over time and can form part of your investment journal entries.

Coming back to Sarine Technologies, here’s a table showing the changes in the company’s EPS, PE ratio, and share price over the past year:

2016-12-29-sarine-table
Source: Google Finance; company’s earnings report

Turns out, Sarine Technologies had more than doubled its EPS. But the sharp rise in earnings was partially offset by a big decline in its PE ratio.

Sarine Technologies’ business can be cyclical. This can, in turn, lead to significant fluctuation in its earnings from year to year.

For instance, Sarine Technologies had EPS of S$0.1089 in 2014 and just S$0.0144 in 2015. These two figures gives an idea of how the company’s EPS looked like on 29 December 2015 and 29 December 2016. Although Sarine Technologies’ earnings was up 144% over the one year period, it was coming off a low base.

Even after that 144% jump, Sarine Technologies’ EPS is still significantly below what it was in 2014. This could be why the company’s PE level is still sitting at a relatively high 30.4. The higher PE ratio could signify that investors are looking for Sarine Technologies’ business to revisit its previous high in the future.

Foolish takeaway

If a stock’s price rises (or falls), we should try to understand if it is backed by a company’s fundamental growth (or decline), or whether it is simply a result of investor exuberance (or pessimism).

When we understand the difference, we may become a better judge on whether a stock’s price gains (losses) are justified – with commensurate growth (decline) in earnings – or something that happened as a result of the market’s irrationality. Such knowledge can help us with our decision making.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore contributor Chin Hui Leong doesn’t own shares in any companies mentioned.