Message Font: Serif | Sans-Serif
No. of Recommendations: 4
You mentioned in your last post Modern Portfolio Theory. If you are a firm believer in MPT, which is an outgrowth of the belief in Efficient Markets, then you would probably disagree with most of the people who frequent this page. The PEG ratio is unnecessary if one believes in perfectly efficient markets, since (under this belief) the stock price will always reflect any and all information available about a given stock. The debate you have going seems to be about market philosophy.

I'm no finance major, but it seems to me that arguing that any human endeavor can be perfect is irrational. There will always be stocks that are over-valued or undervalued. Think about it. How many people do you know who buy stock solely because they are popular? Hell, my father-in-law buys stocks based on tips he hears at work, seldom knowing what the company even does. Millions of buy and sell decisions are made every day that don't have anything to do with fundamentals. Maybe some guy has to pay the bills, or taxes, or whatever. In aggregate, these unrelated decisions must affect the market in some way. I think they cause stocks to be improperly valued. For the most part it's a stable equibrium, i.e. stocks do tend to seek a steady state near their "true" value.

The value of PEGs, then, is to help pick out the stocks that are undervalued. Of course, you must agree that undervalued means "priced lower than what the stock is worth when one takes into account future earnings estimates." Seems reasonable to me.

Anyone who relies solely on PEGs to value a stock is, of course, foolish (small f). But using it as yet another piece of the puzzle, in concert with a broad-based analysis of the company's fundamentals, and perhaps a discounted-free-cash-flow-to-the-firm (DFCFF) analysis, is truly Foolish (big F).

That's my two cents.

Semper Fi,
Print the post  


When Life Gives You Lemons
We all have had hardships and made poor decisions. The important thing is how we respond and grow. Read the story of a Fool who started from nothing, and looks to gain everything.
Contact Us
Contact Customer Service and other Fool departments here.
Work for Fools?
Winner of the Washingtonian great places to work, and Glassdoor #1 Company to Work For 2015! Have access to all of TMF's online and email products for FREE, and be paid for your contributions to TMF! Click the link and start your Fool career.