What is the PEG Ratio?
The Price/Earnings to Growth (PEG) ratio divides a company’s P/E ratio by its expected earnings growth rate. It addresses a key weakness of the P/E ratio: it doesn’t account for growth. A stock with a P/E of 30 might seem expensive, but if earnings are growing at 40% per year, it could actually be a bargain.
The PEG ratio normalizes valuation across different growth rates. A PEG of 1.0 means you’re paying $1 for each percentage point of growth. A PEG below 1.0 suggests the stock may be undervalued relative to its growth prospects, while a PEG above 2.0 suggests you’re paying a premium for growth that may not materialize.
Why it matters for investors
The PEG ratio helps you compare growth stocks on a more level playing field. A company growing earnings at 50% per year with a P/E of 50 has a PEG of 1.0 — the same as a company growing at 10% with a P/E of 10. This makes it easier to spot growth stocks that are reasonably priced versus those trading at unsustainable premiums.
However, PEG ratios rely on forward-looking growth estimates, which are often wrong. Analysts tend to be overly optimistic, especially for high-growth companies. Use PEG as one tool among many, and always verify that the growth assumptions are realistic based on the company’s historical performance and industry trends.
How Stock Analyzer scores it
| Score | PEG Range | What it means |
|---|---|---|
| E | Below 0 | Negative growth or negative P/E — company is struggling |
| A | 0 – 1 | Undervalued relative to growth — potential bargain |
| B | 1 – 2 | Reasonably priced for growth — fair value |
| C | 2 – 3 | Premium pricing — growth expectations are high |
| D | 3 – 4 | Expensive relative to growth — risky |
| E | 4+ | Very expensive — growth may not justify the price |
What to watch out for
PEG ratios are only as good as the growth estimates they’re based on. If analysts are projecting 30% growth but the company only delivers 15%, your PEG calculation becomes meaningless. Always check whether the growth rate used is trailing (actual) or forward (estimated), and compare it to the company’s historical growth patterns.
Also, PEG ratios work best for companies with consistent, predictable growth. Cyclical companies, turnarounds, or businesses with volatile earnings can produce misleading PEG ratios. For these companies, other valuation metrics like price-to-book or free cash flow yield may be more reliable.