When investors look at stocks, they are trying to gauge the value versus the share price. There are all kinds of metrics and ratios to give you an idea of the performance, earnings or financial strength. However, after you have done your initial checks, it still comes down to what we are willing to pay for the future growth of the stock.
The price/earnings (PE) ratio is one number that can show a relative value when compared to other companies in the same industry, but still it is unclear if the stock is too highly priced. I like using the price/earnings to growth ratio, or PEG ratio. You can use it to weigh the stock price versus its own earnings growth. I also add in the dividend yield because that is part of the return you get.
So if the PE ratio is 15 and its earnings growth rate is 15%, then the PEG is simply the 15 PE divided by 15, which gives you a "1". A number 1 or less could mean that the stock is in an undervalued or bargain price range. Above 2 means the price could be way above the growth rate and you may be paying a high premium.
Value investors like to find good companies with a PE 20 or less, but if a stock's earnings are growing at 25% – 30% annually, then a higher PE can be justified. You still need to use the PEG ratio along with other metrics and fundamental research and not base your investing decision solely on it.
With that, here are three quality stocks that have PEG ratios less than 1.5. They are regularly good earnings growers, although one would be a turnaround story right now.
1) Amcor Limited (ASX: AMC)
The global packaging company for beverages, personal and healthcare items recently spun off the Orora Ltd (ASX: ORA) packaging company and is ready to improve earnings and growth. It has a 3.9% dividend yield.
2) Perpetual Limited (ASX: PPT)
As an investment fund management company, it has greatly benefited from the rise in the sharemarket. Its funds under management (FUM) have been growing as more clients are entrusting their investment money with it. The yield is 3.2%.
3) Leighton Holdings Limited (ASX: LEI)
The engineering and construction company is restructuring itself to cut costs and improve margins. After several years of declining stock prices, a business shake-up could set it on a stronger earnings growth path over the mid-term. While you wait for that, it offers a huge 5.2% yield that is better than some bank term deposit accounts.
