Using the PEG Ratio to Value Stocks
Posted on Monday, May 21, 2012
One of the ways that our analysts and investors evaluate the valuation of a stock is to compare its Current Price/Earnings Ratio to the company's projected Earnings per Share growth rate. This comparison is known as the PEG Ratio.
The PEG Ratio is calculated by dividing the P/E Ratio by the EPS Growth Rate; a PEG ratio of 100 or less is considered extremely favorable.
More-consistent, higher-quality companies tend to trade at higher PEG Ratios, while less-consistent companies may trade at lower PEG Ratios. However, one should be wary of stocks sporting very low PEG Ratios as it may suggest problems ahead. On the opposite end of the spectrum, high PEG Ratios suggest an investor is "paying up" for growth. As a test of fair valuation, we suggest that investors look for stocks that have a reasonable P/E Ratio compared to its Projected EPS Growth Rate.
In each issue of the Investor Advisory Service, for each stock currently followed we present the PEG Ratio in the company sorts spreadsheets, in the column is labeled "P/E as % growth." The following are the companies from the May 2012 Investor Advisory Service with a PEG Ratio between 0.85 and 1.00, representing a possible starting point for discovering ideas for your portfolio.
||Higher One Holdings
||St. Jude Medical
||True Religion Apparel
Please note that this list does not necessarily represent current recommendations of the Investor Advisory Service.