What the PEG Ratio Tells You about a Stock’s True Value

8 November 2025

Investing in stocks can feel like navigating a maze—so many numbers, formulas, and financial jargon to decipher. If you’ve ever wondered whether a stock is truly worth its price, you’re not alone. One metric that often flies under the radar but can be a game-changer for investors is the PEG ratio.

You’ve probably heard of the P/E ratio (Price-to-Earnings Ratio)—a common tool for evaluating stocks. But the PEG ratio takes things a step further, giving you a more complete picture of a stock’s value by factoring in growth.

So, what does the PEG ratio really tell you, and how can it help you make smarter investment decisions? Let’s break it down.

Understanding the PEG Ratio

What Is the PEG Ratio?

The PEG ratio, or Price/Earnings-to-Growth ratio, is a valuation metric that helps investors determine whether a stock is overvalued, undervalued, or fairly priced based on its future growth potential.

It builds on the traditional P/E ratio, but unlike P/E, it incorporates the expected earnings growth rate, making it a much stronger indicator of a stock’s true value.

The formula is pretty straightforward:

\[
PEG \ Ratio = \frac{P/E \ Ratio}{Earnings \ Growth \ Rate}
\]

Where:
- P/E Ratio = Stock price divided by earnings per share (EPS)
- Earnings Growth Rate = Expected annual growth rate of earnings (%)

👉 In simple terms, the PEG ratio tells you how much you’re paying for every unit of expected earnings growth.

Why the PEG Ratio Is Better Than Just P/E

At first glance, a low P/E ratio might make a stock look like a bargain. But without considering growth, you might be missing the bigger picture.

For example:
- A high-growth stock could have a high P/E ratio, making it look expensive. But if its earnings are growing rapidly, it may still be undervalued when using the PEG ratio.
- A low P/E stock might seem cheap, but if its growth is stagnant, it could actually be a bad investment.

The PEG ratio helps correct this issue by taking growth into account—giving you a more balanced way to assess whether a stock is worth buying.

How to Interpret the PEG Ratio

So, what do PEG ratio values actually mean? Here’s a quick breakdown:

| PEG Ratio | Interpretation |
|--------------|------------------|
| Less than 1 | The stock may be undervalued—potentially a great buying opportunity. |
| Around 1 | The stock is fairly valued—its price aligns with its growth prospects. |
| Greater than 1 | The stock may be overvalued—investors might be overpaying for future growth. |

A Real-World Example

Let’s say two companies, Company A and Company B, both have a P/E ratio of 30.

- Company A’s expected earnings growth rate is 20%.
- Company B’s expected earnings growth rate is 35%.

Now, let’s calculate their PEG ratios:

- Company A: (30 ÷ 20) = 1.5
- Company B: (30 ÷ 35) = 0.86

Even though both companies have the same P/E ratio, Company B is actually the better deal because it has higher growth potential relative to its price—as reflected in its lower PEG ratio.

The Limitations of the PEG Ratio

While the PEG ratio is a powerful tool, no single metric is perfect. Here are some things to watch out for:

1. Growth Estimates Can Be Unreliable

The PEG ratio relies on future earnings growth predictions—but forecasts aren’t always accurate. Analysts’ estimates can vary, and unexpected market conditions can quickly throw off projections.

2. Not Suitable for Negative Earnings

If a company has negative earnings, the P/E ratio (and therefore the PEG ratio) becomes meaningless. In such cases, other valuation metrics like Price-to-Sales ratio might be more useful.

3. Different Industries Have Different Norms

A ‘good’ PEG ratio in one industry might not be considered favorable in another. Tech stocks, for example, often have high growth rates and higher PEG ratios, whereas utility stocks tend to have lower PEG ratios due to slower growth.

How to Use the PEG Ratio in Your Investment Strategy

Now that you understand the PEG ratio, how can you apply it in the real world? Here are some key takeaways:

1. Compare Within the Same Industry

Always compare PEG ratios for companies within the same sector. A tech company with a PEG of 1.2 might still be a better investment than a utility company with a PEG of 0.8.

2. Use It Alongside Other Metrics

Never rely solely on the PEG ratio. Combine it with other valuation metrics like:
- P/E Ratio – To check how expensive a stock is on a basic level.
- Price-to-Sales (P/S) Ratio – Useful for companies with negative earnings.
- Debt-to-Equity Ratio – Helps assess financial stability.

3. Look for Stocks with a PEG Below 1

If you find a stock with a PEG below 1, it might be undervalued—a potential good buy. But always dig deeper before making any decisions.

Final Thoughts

The PEG ratio is one of the most useful yet underrated tools in stock valuation. Unlike the basic P/E ratio, the PEG ratio helps investors see beyond just price and earnings by factoring in growth potential.

When used correctly, it can help you identify undervalued stocks and avoid overpaying for overhyped companies. But like any metric, it’s best used alongside other tools to get a holistic view of a company’s financial health.

So next time you’re analyzing a stock, don’t just stop at P/E—check the PEG ratio too. It might just help you uncover your next winning investment!