With smart investment becoming the buzzword in today’s investment world, millennials are frequently inclining toward hybrid investment patterns rather than traditional pure play theories like value or growth.
The logic behind this is the effectiveness of a mixed investment strategy as value or growth investing approaches come with their own share of pitfalls. A pure play value investor misses the chance of betting on stocks that have bright long-term prospects. The same way, growth investors often end up investing in expensive stocks. In other words, to make a long-term investment more effective, the principles of both value and growth strategies need to be combined.
The quest for a mixed investment strategy led to the introduction of the GARP (growth at a reasonable price) approach. What GARPers look for is whether the stocks are somewhat undervalued and have solid sustainable growth potential (Investopedia).
One of the fundamental metrics for finding GARP is the price/earnings growth ratio (PEG). Although it is categorized under value investing, this strategy follows the principles of both growth and value investing.
The PEG ratio is defined as: (Price/ Earnings)/Earnings Growth Rate
It relates the stocks P/E ratio with future earnings growth rate.
While P/E alone only gives the idea of stocks, which are trading at a discount, PEG while adding the GROWTH element to it, helps to find those stocks that have solid future potential.
A lower PEG ratio, preferably less than 1, is always better for GARP investors.
Say for example, if a stock’s P/E ratio is 10 and expected long-term growth rate is 15%, the company’s PEG will come down to 0.66, a ratio which indicates both undervaluation and future growth potential.
Unfortunately, this ratio is often neglected due to investors’ limitation to calculate the future earnings growth rate of a stock.
There are some drawbacks to using the PEG ratio though. It doesn’t consider the very common situation of changing growth rates such as the forecast of the first three years at very high growth rate followed by a sustainable but lower growth rate in the long term.
Hence, PEG-based investing can turn out to be even more rewarding if some other relevant parameters are also taken into consideration.
5 Best GARP Stocks Based on Discounted PEG
Here are the screening criteria for a winning strategy:
PEG Ratio less than X Industry Median
P/E Ratio (using F1) less than X Industry Median (For more accurate valuation purpose)
Zacks Rank of 1 (Strong Buy) or 2 (Buy) (Whether good market conditions or bad, stocks with a Zacks Rank #1 or #2 have a proven history of success.)
Market Capitalization greater than $1 Billion (This helps us to focus on companies that have strong liquidity.)
Average 20 Day Volume greater than 50,000: A substantial trading volume ensures that the stock is easily tradable.
Percentage Change F1 Earnings Estimate Revisions (4 Weeks) greater than 5%:Upward estimate revisions add to the optimism, suggesting further bullishness.
Value Score of less than or equal to B:Our research shows that stocks with a Style Score of A or B when combined with a Zacks Rank #1, 2 or 3 (Hold) offer the best upside potential.
Here are five of the 17 stocks that qualified the screening:
Best GARP Stocks Based on Discounted PEG: Pfizer Inc. (PFE)
Pfizer Inc. (NYSE:PFE) focuses on the development and commercialization of a wide range of products including human and animal biologic as well as small molecule medicines and vaccines, along with consumer health care products.
Apart from a Zacks Rank #2 and a Value Score of B, the company also has an impressive expected five-year growth rate of 7.7%.
Best GARP Stocks Based on Discounted PEG: Laboratory Corp. of America Holdings (LH)
Leading healthcare diagnostics company Laboratory Corp of America Holdings (NYSE:LH) provides comprehensive clinical laboratory services and end-to-end drug development support.
Apart from a discounted PEG and P/E, the stock has a Value Score of B and holds a Zacks Rank #2.
Best GARP Stocks Based on Discounted PEG: Hill-Rom Holdings, Inc. (HRC)
Hill-Rom Holdings, Inc. (NYSE:HRC) partners with health care providers by focusing on patient care solutions that improve clinical and economic outcomes in five core areas: Advancing Mobility, Wound Care and Prevention, Clinical Workflow, Surgical Safety and Efficiency and Respiratory Health.
The company has an impressive current-year growth rate of 20%. The stock currently has a Value Score of B and a Zacks Rank #2.
Best GARP Stocks Based on Discounted PEG: HCA Healthcare Inc (HCA)
HCA Healthcare Inc (NYSE:HCA) is the largest non-governmental operator of acute care hospitals in the United States. Headquartered in Nashville, TN, it operates hospitals and related health care entities.
It operates in two geographically organized groups – the National and American Groups. Apart from a discounted PEG and P/E, the stock has a Value Score of A and sports a Zacks Rank #1.
Best GARP Stocks Based on Discounted PEG: Terex Corporation (TEX)
Terex Corporation (NYSE:TEX) is a global equipment manufacturer catering to construction, infrastructure, and surface mining industries. The company’s manufacturing facilities are located in the United States, Canada, Europe, Australia, Asia and South America. The stock currently sports a Zacks Rank #1 and has a Value Score of A. It also has an impressive long-term historical earnings growth rate of 14.5%.
Get the rest of the stocks on the list and start putting this and other ideas to the test. It can all be done with the Research Wizard stock picking and backtesting software.
The Research Wizard is a great place to begin. It’s easy to use. Everything is in plain language. And it’s very intuitive. Start your Research Wizard trial today. And the next time you read an economic report, open up the Research Wizard, plug your finds in, and see what gems come out.
Disclosure: Officers, directors and/or employees of Zacks Investment Research may own or have sold short securities and/or hold long and/or short positions in options that are mentioned in this material. An affiliated investment advisory firm may own or have sold short securities and/or hold long and/or short positions in options that are mentioned in this material.
Disclosure: Performance information for Zacks’ portfolios and strategies are available at: https://www.zacks.com/performance.
Zacks Restaurant Recommendations: In addition to dining at these special places, you can feast on their stock shares. A Zacks Special Report spotlights 5 recent IPOs to watch plus 2 stocks that offer immediate promise in a booming sector. Download it free »