The PEG ratio

Once you understand how the PE ratio works, the question is how stocks in different industries can be compared. Different industries can experience different growth rates. It's not logical to compare the PE of a slow growth company to one that is growing at a rapid pace. After all, earnings growth is what drives stock prices higher. The PEG ratio solves this problem. It compares the PE ratio to the earnings growth of a company. So if XYZ company is trading at a PE of 10X and is growing earnings at 10% then the PEG would look like this: 10/10=1. What if XYZ fell on hard times and it's growth rate fell to 5%. Then the PEG would look like this: 10/5=2. Obviously the better value would be the PEG of 1, which indicates that you are paying 1X the growth rate rather than 2 times as in the second example. What would be an even better value? How about .5X the growth rate. So if XYZ had a growth spurt in earnings, say to 20%, then the PEG would look like this: 10/20=.5X . All we are really trying to determine is how expensive the stock is. Like any other purchase such as a house, car, even groceries, we don't want to overpay for the asset. Remember, buy low and sell high.