Thread by @FinsenseG

Thread: The PEG Ratio (believe me it’s about finance not🥃) 🧵👇

1/ P/E ratio is a commonly used tool in valuation of stocks. We can compare P/E among industry peers and average P/E in a particular industry. We know it’s the price multiple which one is willing to pay to have a slice in earnings of the company.

To know more about P/E ratio, check this out

https://twitter.com/FinsenseG/status/1318070674825474050?s=20

2/ But, do you know it has a bigger brother called PEG ratio who can further guide about the growth potential. So to know the PEG we divide P/E by projected growth in EPS. P/E used in this is the trailing P/E and EPS growth are the projections.

3/ PEG ratio draws a relationship between a stock’s P/E ratio and projected earnings over a specific period. It is a very crucial ratio as it allows an analyst and investor to value the stock like P/E ratio while also taking growth in consideration.

4/ Formula: PEG = (Price per share/EPS)/EPS growth rate

Suppose, Earnings 10000, Price 25, No. of shares 1000, EPS growth 3%
So, EPS = 10000/1000 = 10
Therefore, PEG = (25/10)/3 = 0.83

5/ Estimations of growth rate can be of different time periods like 1, 2, 3. The bigger the time frame, the larger is the chance of not being accurate. It is always best to get projections from the management as one can easily keep a track of these & even verify past predictions.

6/ To interpret PEG ratio let's dive deeper into it. P/E ratio of a stock denotes the amount one is willing to pay to have ₹1 in the earnings. So lower the P/E cheaper the stock is perceived. But this metric does not account for growth. Let us understand with an example below.

7/ Stock A & Stock B has P/E of 18 & 20 resp. Here, if we just consider the P/E ratio, Stock A is clearly cheaper to buy. But assume growth of A as 15 & B as 22. Now, PEG of A is 1.20 & B is 0.91. Equilibrium point is 1 in PEG ratio. Anything above 1 is pricey & below 1 is cheap.

8/ PEG ratio is one metric that combines price multiple and growth. But just basing your analysis on this parameter could be wrong and sometimes other factors like demand supply might also be giving PEG ratio below, above or equilibrium of 1 to a particular stock.

9/ Regardless of all the differences between P/E ratio & PEG ratio one should be vigilant enough to regard both as important tools in stock valuation analysis and also keeping a close watch on other factors affecting stock prices and movements.

By- @harindersnanda