The investing track of the Oracle of Omaha over the past few decades shows a gradual shift from being a pure-play value investor to a GARP (growth at a reasonable price) investor. The logic behind this is the effectiveness of a mixed investment strategy over pure play value or growth approaches of investments.
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 (
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 a stock’s 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 the 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 does not 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.
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 seven of the 51 stocks that qualified the screening:
Hibbett Sports, Inc. ( HIBB Quick Quote HIBB - Free Report) : This is a major athletic-inspired retailer, located in small and mid-sized markets across the United States. The company typically caters to small counties with the population ranging from 25,000-75,000 with a merchandise assortment focused on footwear, athletic equipment and apparel.The stock can be an impressive value investment pick with its Zacks Rank #1 and Value Score of A. Apart from a discounted PEG and P/E, the stock also has an impressive long-term historical growth rate of 16.4%. You can see the complete list of today's Zacks #1 Rank stocks here . General Motors Company ( GM Quick Quote GM - Free Report) : As one of the world’s largest automakers, General Motors along with its strategic partners, produces, sells and services cars, trucks and parts under four core brands — Chevrolet, Buick, GMC and Cadillac. General Motors assembles passenger cars, crossover vehicles, light trucks, sport utility vehicles (SUVs), vans and other vehicles. The stock can also be an impressive value investment pick with its Zacks Rank #1 and a Value Score of A. Apart from a discounted PEG and P/E, the stock also has an impressive expected growth rate of 22.7% for 2022. Greif, Inc. ( GEF Quick Quote GEF - Free Report) is a global producer of industrial packaging products and services with manufacturing facilities located in over 40 countries. It offers a comprehensive line of rigid industrial packaging products and containerboard and corrugated products for niche markets in North America. It is also a leading global producer of flexible intermediate bulk containers. The company has an impressive fiscal 2021 (ending Oct 2021) growth expectation of 46.3%. The stock currently has a Value Score of B and a Zacks Rank #1. Santander Consumer USA Holdings Inc. ( SC Quick Quote SC - Free Report) : This is a full-service consumer finance company focused on vehicle finance, third-party servicing and delivering superior service. Apart from a discounted PEG and P/E, the stock has a Value Score of A and holds a Zacks Rank #1. Arrow Electronics, Inc. ( ARW Quick Quote ARW - Free Report) : This is one of the world’s largest distributors of electronic components and enterprise computing products. Arrow provides one of the broadest product ranges in the electronic components and enterprise computing solutions distribution industries. The company also provides a wide range of value-added services to help customers reduce their marketing time, lower the total cost of ownership, introduce innovative products through demand creation opportunities and enhance their overall competitiveness. The stock carries a Zacks Rank #2 and has a Value Score of A. The company has an impressive long-term earnings growth expectation of 20.1%. Boise Cascade, L.L.C. ( BCC Quick Quote BCC - Free Report) is one of the largest producers of engineered wood products and plywood in North America and a leading U.S. wholesale distributor of building products. The stock can also be an impressive value investment pick with its Zacks Rank #1 and a Value Score of A. Apart from a discounted PEG and P/E, the stock also has an impressive long-term historical growth rate of 32.4%. Flex Ltd. ( FLEX Quick Quote FLEX - Free Report) is a Singapore-based provider of “Sketch-to-Scale” services to original equipment manufacturers (OEMs). The company provides end-to-end services i.e. designing, engineering, manufacturing, as well as supply chain services & solutions.. The company has an impressive long-term expected growth rate of 11.4%. The stock currently has a Value Score of A and a Zacks Rank #2.
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Click here to sign up for a free trial to the Research Wizard today. 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 .