PEG ratio (the price/revenue to growth ratio) is a valuation metric to determine the relative trade-off between a stock's price, earnings per share (EPS), and expected growth.
In general, the P/E ratio is higher for firms with higher growth rates. Thus only using the P/E ratio will make the companies with high growth appear to be overvalued compared to others. It is assumed that by dividing the P/E ratio by the profit growth rate, the resulting ratio is better for comparing firms with different growth rates.
The PEG ratio is considered an easy approach. It was originally developed by Mario Farina who wrote about it in his 1969 book, The Beginners Guide To Success Investing In The Stock Market . It was later popularized by Peter Lynch, who wrote in his 1989 book "One Up on Wall Street" that "The P/E ratio of any reasonably priced company would match its growth rate", that is, enough companies are rewarded has a PEG equal to 1.
Video PEG ratio
Basic formula
The growth rate is expressed as a percent value, and must use real growth only, to correct inflation. For example. if a company grows 30% per year, in real terms, and has P/E 30, it will have PEG 1.
The lower ratios are "better" (cheaper) and higher ratios are "worse" (expensive).
The P/E ratio used in the calculations can be projected or followed, and the annual growth rate may be the expected growth rate for the next year or the next five years.
Example:
- Yahoo! Finance uses the expected 5-year growth rate and P/E based on EPS forecasts for the current fiscal year to calculate PEG (PEG for IBM is 1.26 on August 9, 2008 [1]).
- The NASDAQ website uses estimated growth rates (based on professional analyst consensus) and earnings forecast over the next 12 months. (PEG for IBM was 1,148 as of August 9, 2008 [2]).
Maps PEG ratio
As an indicator
PEG is a widely used indicator of the true value of a stock. Similar to the PE ratio, the lower PEG means that the stock is undervalued more. This is favored by many above the price/profit ratio as it also contributes to growth.
The PEG 1 ratio is sometimes said to represent a fair trade-off between cost values ​​and growth values, which indicates that a stock is reasonably valued given the expected growth. Rough analysis shows that firms with PEG values ​​between 0 and 1 can provide higher returns.
The PEG ratio can also be a negative number if the current income figure is negative, (negative earnings) or if future earnings are expected to fall (negative growth). The PEG ratio calculated from current negative earnings is viewed with skepticism as almost meaningless, as well as an indication of high investment risk.
Criticism
When PEG is cited in public sources, it makes a lot of difference whether the income used in calculating PEG is EPS last year, next year's EPS forecast, or even analysts' speculation forecasts selected for growth over the next five years. Use of expected growth rates next year is considered better as the most reliable of future forecasts. However, which growth rate is selected to calculate a particular published PEG ratio may be unclear, or it may require close reading of footnotes for a given number.
PEG ratios are generally used and provided by various sources of financial and stock information. Despite widespread use, the PEG ratio is only a rough rule. Critics of PEG ratios include overly simplified ratios that fail to be useful in associating price/earnings ratios with growth because they fail to account for the return on equity (ROE) or the required return factor (T).
PEG validity is highly questionable when used to compare firms that expect high growth with those who expect low growth, or to compare firms with high P/E with low P/E. It is more appropriate to consider when comparing so-called growth companies (revenues that grow much faster than the market).
Growth rates are estimated to come from an impartial source. This may be from an analyst, whose job must be objective, or an investor's own analysis. Management is not impartial and it is assumed that their statements are somewhat confusing, changing from slightly optimistic to unreasonable. This is not always true, as some managers tend to predict simple results only to get better results than claimed. A wise investor to investigate for themselves whether the forecast makes sense, and what should be used to compare stock prices.
The PEG calculations based on a five-year growth estimate are particularly subject to overly optimistic growth projections by analysts, which are on average unattainable, and to discount the risk of losing investment capital.
Benefits
Investors may prefer PEG ratios as they explicitly place value on expected growth in corporate earnings. The PEG ratio can offer suggestions as to whether a high corporate P/E ratio reflects stock prices that are too high or a reflection of a promising growth prospect for the company.
Disadvantages
The PEG ratio is not appropriate for measuring companies without high growth. Large and well-established companies, for example, can offer reliable dividend income, but few opportunities for growth.
The company's growth rate is approximate. This is subject to the limitations of projecting future events. The future growth of the company may change due to a number of factors: market conditions, expansion decline, and investor hype. Also, the convention that "PEG = 1" is precisely rather arbitrary and is considered a rule-of-thumb metric.
The simplicity and ease of calculating PEG leaves some important variables. First, the absolute firm growth rate used in PEG does not take into account the overall rate of economic growth, and therefore an investor should compare PEG shares against the average PEG across its industry and throughout the economy to gain an accurate sensitivity about how competitive the stock is for investment. PEG is low (attractive) at a time when high growth across the economy may not be that impressive when compared to other stocks, and vice versa for high PEG in periods of slow growth or recession.
In addition, the company's growth rate is much higher than the level of unstable economic growth and is vulnerable to any problems that may be faced by companies that will prevent it from maintaining current levels. Therefore, higher PEG shares with stable and sustainable growth rates (compared to economic growth) can often be a more attractive investment than low PEG stocks that may occur only on short-term "stages" of growth. Higher growth rates of growth over the years typically show a very lucrative company, but can also show a scam, especially if growth is a flat percentage, no matter how other parts of the economy fluctuate (as long as a few years back in the Ponzi scheme Bernie Madoff).
Finally, highly speculative and risky stock volatility, which has a low price/earnings ratio because the price is very low, is also not corrected in PEG calculations. These stocks may have low PEGs due to very low short-term (~ 1 year) PE ratios (eg 100% growth rate of $ 1 to $ 2/share) that do not show a guarantee to sustain future growth or even solvency.
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References
External links
- Investopedia - PEG Ratio
Source of the article : Wikipedia
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