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Additional Details
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Gotta know | Why do investors pay higher prices for growth stocks? |
Why do they pay even though there is such a high price/earnings ratio? |
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Dude
|
Well, most investors want very high growth - High Growth stocks will have a higher P/E ratio. As You probably know, the P/E ratio is the real measure of a companies "Value"
Here's an interesting thing to start looking at....it's the "PEG ratio"
PEG ratio equal (Forward P/E ratio / 5 year estimated growth)
NOTE: a PEG ratio = 1 equals perfectly valued (in some peoples opinion)
A higher PEG ratio means, or can mean, it's more expensive.
Let's take a look at two comparable companies.....in the same sector. Let's look at Hewlett Packard and Dell Computer.
HPQ
Forward P/E: 12.31
5 year estimated growth: 15.59%
* PEG ratio = .86
DELL
Forward P/E: 12.83
5 year estimated growth: 12.41%
* PEG ratio = 1.13
As you can see, Dell has a higher "PEG" ratio than Hewlett Packard, even though Hewlett Packard has a higher growth rate. Therefore, it can be argue that Hewlett Packard is "cheaper"
NOTE: If a stock has a high P/E it BETTER have a high growth rate. If you invest in it, you had better be sure that it's growth will be great moving forward.
Many people ask why stocks are so volatile...well, day to day when a stock moves...........The Forward P/E ratio is what is really moving the stocks value so much.
Complicated - I know! But you just can't look at one variable you've got to weigh in everything.
YahooFinance is a great tool. When you are looking at your stocks, you can click on the link "key statistics" and find some great information.
But I think that the Forward P/E and the PEG ratio are great tools to get a good idea about how a stock is valued compared to how it is growing.
I hope I've helped....long answer... |
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Dave W
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One way of valuing a stock is to add up the present value of all its expected future earnings. If you consider two companies with the same current earnings, the future earnings of a high-growth stock will be much higher than those of a low-growth stock, so the current value of the high-growth stock will be more.
For anyone investing long term, a growth stock is worth more than a non-growth stock that has the same current earnings. Say you have company growing earnings at 5% per year. This year it earns $2/share. Next year the earnings are 5% higher - $2.10. The following year $2.21. Fourth year $2.32. Fifth year $2.43. Total for 5 years = $11.06.
Another company also earns $2/share but is growing earnings at 30%, so its earnings for years 2-5 will be $2.60, $3.38, $4.39, and $5.71 for a 5-year total of $18.09.
If you were buying a stock to hold for 5 years, wouldn't you be willing to pay more for the company that's going to make $18.09 during that time than the one that's going to make $11.06?
The trick of course is accurately estimating the future earnings. Will a company that grew 30% last year be able to keep that up for 5 or 10 years? |
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Carlos G
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More future potential for profits. |
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bizzbagg
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because they do not know the true value of the company. always protect your money with the company's money.
aka VALUE INVESTING |
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src50
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That is the fundamental difference between "growth" investing and "value" investing. |
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Ted
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Throw away the P/E ratio for growth stocks. It's based either on recent past earnings or an estimate of future earnings. The people that buy these things are looking at what they think earnings will be way down the road, like 5 - 10 years. |
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♥ ~Sigy the Arctic Kitty~♥
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It is all about expectations. A company's PE tells you what investors expect future earnings will be.
A low PE indicates that investors do not have high expectations for the business. The business does not have opportunities to grow, is cyclical, or is struggling and in difficulties.
A higher PE indicates the opposite, that the future looks bright. (Or that the earnings were depressed by a bad event and will recover soon).
But yes, you do have to seriously think about what you are willing to pay. While a business with above average potential is worth more, the real question is how much more. |
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