PEG below 1
Lynch's buy zone. Investors pay less per unit of expected earnings growth than the growth rate justifies. Requires confidence in the growth forecast.
Definition
What is the PEG ratio?
The PEG ratio is P/E divided by the earnings growth rate. Peter Lynch's go-to valuation gauge for growth-at-a-reasonable-price. Under 1 traditionally signals undervaluation relative to growth, above 2 signals exuberance. Most useful for steady earnings compounders.
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Short answer
Lynch's shorthand: the P/E of any company that is fairly priced will equal its growth rate. A company growing 20 percent should trade near 20x earnings; if it trades at 10x, you have a possible bargain. The trick is the growth-rate input. Choose trailing five-year compound, forward consensus, or a long-cycle blend. Each gives a different answer.
How to read the three PEG bands
PEG between 1 and 2
Fair to slightly stretched. Common for high-quality compounders with durable double-digit growth. Worth owning if quality is high.
PEG above 2
Expensive on Lynch's scale. The growth forecast has to materialize and persist for years to justify the price. Disappointing growth is severely punished.
A worked example
Microsoft trades around 35x earnings with consensus earnings growth near 14 percent for the next three years. PEG is 35 divided by 14, or 2.5. By Lynch's rule of thumb, Microsoft is expensive on growth. The counter-argument is that the quality and durability of the franchise justify the premium. PEG starts the conversation; quality finishes it.
invest-like surfaces PEG inside the Lynch-Fit reasoning; see /methodology/.
Related
- Seven-framework methodology hub - where PEG enters each of the seven framework rubrics, with Lynch-Fit putting the heaviest weight on it.
- Top Lynch-fit stocks today - the live ranking of US-listed stocks scoring well on Lynch's PEG-led growth-at-a-reasonable-price test.
See PEG on a real verdict
Every Lynch-Fit verdict on invest-like surfaces a PEG calculation grounded in current consensus growth.
Educational only. invest-like is not a registered investment adviser; nothing here is personalised investment advice. Always do your own research and consider your individual circumstances.