The Price / Earnings to Growth ratio is known in financial circles as the PEG ratio. The PEG ratio provides an insight into the growth prospects of a company.
Formula for calculation of PEG Ratio
The formula for computation of the PEG ratio is
PE ratio ÷ Growth in EPS (on annual basis)
where PE represents Price to Earnings and EPS, the Earnings Per Share. The ratio is regarded as a more comprehensive, more sophisticated indicator of the growth potential of a company. It is, therefore, regarded as a more polished tool for judging whether a stock is reasonably priced.
Forward and Trailing Ratio
The trailing ratio takes into account historical data for calculation of the annual growth in EPS. The forward ratio is based on calculation of the annual growth rate of EPS using future projections. The votaries of the ‘trailing’ ratio claim that their method is more reliable being based on actual performance. The advocates of the ‘forward’ ratio say that capital appreciation is a future event and, therefore, projected EPS is the appropriate method.
Interpretation of the ratio
When the ratio is less than 1, the stock is considered to be under-valued. That means there are bright prospects of the value of the share increasing in future. Conversely, the stock is regarded as over-valued when the ratio is more than 1. The straightforward analysis is that the chances of stock appreciation are bleak.
PEGs aren’t just for drying your laundry ahahahahaha
Another piece of great advice I’ve found here - thanks, Randolph! It is important for new investors to know all these terms and understand them properly before investing anything. To be able to analyse these things for yourself and not just rely on a broker gives extra security.