PEG Ratio
Definition
The PEG ratio is the P/E ratio divided by the expected earnings growth rate expressed in percentage points (e.g., a P/E of 20 with 20% expected EPS growth gives a PEG of 1.0). It attempts to normalize P/E for growth so fast growers and slow growers can be compared.
The rough heuristic — popularized by Peter Lynch — is that a PEG around 1.0 suggests fair value, below 1.0 potentially cheap, above 1.0 potentially expensive. This is a rule of thumb, not a theorem: it embeds strong implicit assumptions and ignores risk, returns on capital, and the duration of growth.
PEG is unreliable at growth extremes (very low or negative growth makes it explode or lose meaning) and is sensitive to which growth estimate is used (next year versus 3-5 year CAGR).
Why interviewers ask
PEG shows up in "how would you compare two companies with very different growth rates?" questions, especially in equity research interviews. The trap is treating PEG = 1 as a law rather than a heuristic, and using it where it breaks (low-growth, cyclical, or loss-making companies).
Related terms
Interviews don't test definitions — they test recall under pressure.
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