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Strategies & Market Trends : Gorilla and King Portfolio Candidates
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To: Mike Buckley who wrote (43567)6/16/2001 4:19:01 PM
From: Stock Farmer  Read Replies (1) of 54805
 
Mike: PEG implies that a company's price should be proportional to Earnings and Growth.

Or, P = K * E * G

If we assume a reasonable degree of rationality so that people will pay dollars today in expectation of future dollars tomorrow at a rate of return... then with very few simplifying assumptions it is entirely straight forwards to demonstrate the relationship

P = K * E

I don't have the time now but later I can go into it in detail. The bottom line is that this "K" is a function of growth rate already, and the relationship between "K" and "G" is geometric, not linear. Thus we can't just factor "G" out and state

P = A * E * G where A is K/G

PE is not a fiction. PEG is a fiction.

Growth companies violate the assumptions necessary for PE to be a reasonable approximation of economic value. So PE doesn't apply to growth companies very well.

John.
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