Finding value in growth stocks

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On Wall Street the typical question that most investors ask is whether they should be owning growth stocks or value stocks. There is no doubt that this debate will rage on for a long time to come, but the truth is you can find value in growth stocks. Thus, if you want to stay out of the argument altogether and find stocks that are a kind of hybrid stock you can sometimes get the best of both worlds.

The first thing you’ll need to do is identify some solid growth stocks. Realize that a company does not classify as a growth stock simply because it has had a quarter or two of great growth, rather the company needs to have shown a consistent pattern of growing its bottom line over a period of multiple quarters. A growth stock is a stock that is growing faster than the average for the S&P 500 and is believed to be able to keep up this earnings growth because of their product line or innovative services. Look for growth stocks that are making money, but have a long ways to go to reach their full potential.

After you have found the growth stocks you will need to try to find these stocks at the right price so you can get a solid value. One of the best ways to measure what kind of value you are getting for a growth stock is to use the peg ratio. The peg ratio is an advanced form of the price/earnings ratio, that takes into account the growth rate of a company. As a general rule it is understood that investors are willing to pay more for a stock that has more potential, thus the price/earnings ratio of a new growth stock will normally be higher than a more mature value stock. The peg ratio does a good job of equalizing the future growth estimates and the current valuation. Look for growth stocks that have a peg ratio of below one. In addition to these things you’ll want to look at what the stock has been valued at in the past. Historical valuation levels can be found through most stock research websites, and they can be very helpful in knowing when the price may be right to buy a growth stock.

There are times on Wall Street when growth stocks will fall out of favor, but the key for individual investors is to find them when they are down and latch onto them for the long run. Understand that these opportunities don’t always come along, and they are not easy to find. Stocks with above average growth will typically be tough to find at a great value, but if you are persistent and wise you should be able to get a solid entry price.


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