A question about the PEG (price earning growth).

[G_V_V]

= PE ratio / EPS Growth Rate I am aware that: - A PEG factor equal to one, means that the market is pricing the stock to fully reflect its EPS growth potential. - A PEG factor greater than one, indicates that either the stock is overval

[SimonPB]

no one thing makes a strategy .. it is the combination that matters ..

[Harathke]

Have a look at ---> http://smallcaps.co.za/index.php?option=com_content&task=view&id=469&Itemid=28

[Spoegs]

Why would you even consider a company with an EPS growth of zero?

[G_V_V]

Ok let's make the growth 1% because a PE of 1 can not be divided by zero. Money in the bank at money market rates has a form of EPS = to zero, however the rates do change. Let's just presume the scenario so that we can try to understand the PEG.

[G_V_V]

This is even more confusing. I quote from the web site, "For example, company XYZ has a growth rate of 10%pa, PE of 20, and a DY of 10%. Ignoring the dividend potential of the share, the PEG appears to be 2 (=20/10). This makes the share look over-valued, but the moment the DY is taken into account the share looks fairly valued with a PEG of 1 (=(20/(10+10)))." The company is making an earning of 5% and it pays 10% dividends, the NAV will be zero in twenty years. Where is the value then?

[G_V_V]

OK but I am trying to understand the PEG, if it has any value in determining value. Simplicity is always the best way to keep control.

[DST]

See
http://www.tickertalk.co.za/blog.php?user=stuart&blogentry_id=1622

Good luck

[G_V_V]

I had a look and downloaded the spreadsheet but all it does is divide the PE by the EPSG which I do in my head anyway. The PEG proves nothing of value as my example and tickertalk's example shows.

[DST]

You have got it - its not about the calculation, its about the contemplation. What will the future trajectory be? - that is the question.

[G_V_V]

So the PEG is irrelevant, the bottom line is still what matters and future bottom lines.

[Spoegs]

To answer your final question value investing typically involves "buying securities whose shares appear underpriced by some form(s) of fundamental analysis". PEG is one of the tools that can be used for this fundamental analysis. EY, DY and price to book ratios can all be used. Fama and French used price to book to differentiate between value and growth stocks. According to Fama and French value outperform growth stocks over the longterm and small caps outperform large caps over the long term. Value and small (and I'd suggest small in particular) can have higher risk profiles though.

[G_V_V]

Yes but how can the PEG be used as a tool to determine value after all that was discussed here?

[G_V_V]

By using the PEG in combination with other tools to determine a value investment can also fool the investor in choosing the more valuable investment. Let's assume that in my example above company B has a PE of 2 and a EPSG of 1% the PEG will be 2. Let's keep company A the same with a PEG of 1. If we now use the PEG tool in our decision making after having used the other tools in determining value the result would be less than desired. Company B with a PEG of 2 would return the capital invested after two years where company A would return the capital invested after 3.6 years. The use of the PEG tool is therefore a stumbling block and unnecessary in deciding where there is value in shares.

[topgun]

This is a rubbish conclusion....I would far rather buy a company growing at 20% at a PEG ratio of 0.5 and below than 1.0 and above, all other things being equal. This ratio is certainly a valuable tool provided it is applied in a rational manner using a 12-month rolling forward PE and projected EPS growth over the next 24 to 36 months. Not for lazy thinkers then.

[#16]

topgun's observation shows the value of hte PEG. On its own it is useless. It needs to be viewed in conjunction with its PE. And PE on its own is also useless, it needs to be viewed in terms of its peers, its historic range and the stability of the sector. So take construction, as an example. Aveng is trading on a PE of 7 and a PEG of 0.14. M&R is trading on a PE of 11, and a PEG of 0.34. These are comparable stocks, and the ratios tell me two things. 1 Aveng is looking relatively cheap and B, analysts prefer Aveng's chances to M&R. This is also reflected in the forecast consensus (buy for AEG and hold for MUR). Now, you might consider ESR as even better value (PE of 4 & peg of 0.06) but the comparison is not fair, because of the extra risk of a small cap stock. A low PE stock is almost always going to have a higher PEG. Peter Drucker uses the PEG as one of his indicators for when to exit a stock.

[louisg]

G V V, I reckon one must introduce a time frame to your above example. In the shorter term B is certainly the better investment, however over the longer term, A will eventually outperform B. A is offering the investor an initial divi of 5c compounding at 10% a year, whereas B is offering 50c compounding at 1%. Assuming a static PE and a div cover of 1 then after about 40 years A will have paid out 2434c and B 2469c total dividends and A would have paid one 226.31c in year 40, B = 74.44c. However, inflation needs to be taken into account. Lets use 5% a year. Now we have A offering 5c compounding at a real return of +5% and B offering 50c at -4%. In year 40, A will pay a divi(in real terms) of 35.21c and B 9.77c. Its not that the PEG ratio is useless, it must just be used correctly. The rule of 72 is a fantastic compounding tool yet it's not perfect. 72x1 does not = 100%. From about 4 it works a treat.

[G_V_V]

So you are telling me is that you rather invest in a company that only doubles your initial capital after 3.6 years rather than 2 years, both to perpetuity? Just keep in mind that my example is just for purposes of explaining the dangers of using the PEG as a value investing tool. I doubt that any company can perform as the one in my example for long.

[topgun]

It is only dangerous in the wrong hands or when applied in a distorted or illogical manner to prove a point...like most things, but is nonetheless a valuable tool to place a high PE ratio in perspective, such as in the case of CPI or NPN where other criteria might caution against a purchase.

[G_V_V]

All things being equal the time frame is to perpetuity but watched for change. The fact is that one must invest on the information one has with the risk that it might change and then appropriate action must be taken. In my example at the top, Company B with a PE of 1 means the initial investment is returned after 1 year and company A with a PE of 10 excluding the growth means the initial investment is returned after 10 years. I would much rather double my initial investment every year than every 10 years. Just think what one can do with the returns of company B, hardly close the returns of company A not matter the time frame. Company B will always have a greater return with the same PE's if you consider the returns.