Understanding a Stock's PEG Ratio

A peg ratio cannot be used alone but is a very powerful tool when integrated with the rudiments (price, volume and chart reading). You must enjoy crunching numbers and have got a calculator convenient to gauge your ain peg ratio. Access to quality statistical information from the web such as as past earnings and future earning estimations is indispensable to cipher this cardinal indicator. A assortment of websites bring forth a peg ratio but I have got not establish one land site that have a dependable peg ratio that I can utilize for my ain research, so I cipher it myself, ensuring truth with the concluding number.

I am going to utilize the definition from investopedia.com arsenic it do complete sense and doesn’t get too confusing (below the definition is additional account and a current existent clip example, using Apple Computer).:

The peg Ratio:
“The peg ratio compares a stock's price/earnings ("P/E") ratio to its expected EPS growing rate. If the peg ratio is equal to one, it intends that the market is pricing the stock to fully reflect the stock's EPS growth. This is "normal" in theory because, in a rational and efficient market, the P/E is supposed to reflect a stock's hereafter earnings growth.

If the peg ratio is greater than one, it bespeaks that the stock is possibly overvalued or that the market anticipates future EPS growing to be greater than what is currently in the Street general agreement number. Growth pillory typically have got a peg ratio greater than one because investors are willing to pay more than for a stock that is expected to turn rapidly (otherwise known as "growth at any price"). It could also be that the earnings prognoses have got been lowered while the stock terms stays relatively stable for other reasons.

If the peg ratio is less than one, it is a mark of a possibly undervalued stock or that the market makes not anticipate the company to accomplish the earnings growing that is reflected in the Street estimates. Value pillory usually have got got a peg ratio less than one because the stock's earnings outlooks have risen and the market have not yet recognized the growing potential. On the other hand, it could also bespeak that earnings outlooks have got fallen faster than the Street could publish new forecasts.”
- provided by www.Investopedia.com

PEG Ratio Example:
Using Apple Computer Inc., Iodine will demonstrate how to cipher the peg ratio without relying on other websites.

First, you will need to garner the past earnings numbers; going back at least 2 old age and going forward two years. (All information is from Thursday, June 23, 2005)

AAPL:
2003: 0.09
2004: 0.36
2005: 1.31 (E)
2006: 1.52 (E)

Now we need to cipher the growing from twelvemonth to year.
Subtract the earnings of 2004 by 2003 and then split by 2003.
Repeat the procedure to determine the growing rate for the following years:

2004: (0.36-0.09)/0.09 x 100 = 300% growing rate

2005: (1.31-0.36)/0.36 x 100 = 264% growing rate

2006: (1.52-1.31)/1.31 x 100 = 16% growing rate

Now, take the current terms (we will utilize the stopping point from Thursday, June 23, 2005: $38.89) and watershed it by 2004 earnings and then by the 2004 growing rate:

2004: 38.89/ 0.36 / 300 = .36 peg Ratio
2005: 38.89/ 1.31 / 264 = .11 peg Ratio
2006: 38.89/ 1.52 / 16 = 1.59 peg Ratio

Using the definition from above, Investopedia states that a stock is evenly valued at a peg ratio of 1 in a rational and efficient market. Please short letter that the stock market is not very rational or efficient so we only utilize this number as a secondary index and tool, after our cardinal and technical analysis is complete. Apple’s peg Ratio of 0.11 for 2005 was discounted into the terms when these estimations first hit the street, giving us the large run-up late last year. Going forward, the stock’s earning possible expressions to slow considerably and the peg ratio clearly demoes us the enormous leap in numbers from 2005 to 2006. A peg ratio of 1.59 for 2006 is not the best evaluation going forward but still under the reddish flag ratio of 2.00.

Finally, once you determine the peg ratio of the stock you are looking to buy, take the clip to cipher the peg ratio for the “sister stocks” inch the industry grouping to see if they have got higher or lower peg ratios. Keep in mind, peg ratios don’t work for companies with negative or non-existent earnings numbers.