Picking a good stock to invest in, whether it is for your Individual Retirement Account or because you are aiming to make your money work for you, is like picking a winning horse at the track. You need to study the form closely. Three indicators of form for a stock are the numbers; EPS, earnings per share, PE; price to earnings ratio and PEG; price over earnings to growth.
The EPS, PE and PEG are all measures of past performance for stocks. The really big question, to which there is no answer, is; does past performance correctly predict future success?
A company’s EPS or earnings per share is that part of it’s yearly profit, after tax, that rewards its’ outstanding common shareholders with. The company’s preferred stock and bondholders get first call on any distributed profits. It is important for companies to keep their stockholders sweet with generous annual payments because this makes the raising of further funds on the stock market that much easier.
A company stock PE, price to earnings ratio, is calculated by dividing the price by the EPS. This piece of form tells the investor how much they are actually paying for the return on the stock. A relatively low PE is associated with companies that have been around for a long while and have a solid and successful track record of paying reliable earnings. Younger up and coming companies often need to keep back their profits for internal investment and therefore have a relatively higher PE.
Both the EPS and the PE are somewhat static measures while the PEG; price over earnings to growth tries to take a longer-term view of company performance. So what Does PEG actually mean? It is form rating that tries to assess a stock’s value while taking earnings over time into account. It is measured by dividing the EPS by the growth of the EPS over X number of years.
A great many brokerage house put a lot of store in PEG as a good guide to a stock’s future value. It is preferred by many experts the PE ratio precisely because it takes accounts of rates of growth over time. Just like the PE, a lower than expected PEG shows a stock to be below its true value.
When comparing the prophecies of broker recommendations be sure to know the precise ratio and time period that the pundits are using. 2 years can mean a very big difference to say five years on the PEG.