What does growth at a reasonable price (GARP) mean?

Investors looking to obtain a balance of growth investing and value investing should consider the strategy known as Growth at a Reasonable Price (GARP) trading strategy. This strategy looks to combine both growth and value investing.

Definition

Growth at a reasonable price (GARP) is a strategy that combines growth investing with value investing. Stocks which have fall into this group are companies which demonstrate good growth potential in the future but they aren’t too expensive as these have low price/earnings (P/E) multiples. Stocks which have a PEG of 1 or less are considered growth at a reasonable price stock.

GARP investors believe that high levels of growth earnings growth cannot be sustainable for long periods of time. They are cognisant that high growth rates can drive an elevated interest in the stock which can drive up the stock price and create overpricing. Companies which have growth rates of 20% to 25% are selected to avoid high growth companies.

Formula to identify GARP stocks

GARP stock are selected when they have a PEG = equal or less than 1

PEG Ratio =   {P/E / annual eps growth}

First you need to calculate the price to earnings ratio of a company or P/E.

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P/E  = [share price/earnings per share]

Then using the P/E ratio you can calculate the PEG using [P/E /annual EPS growth].

Balance Sheet

Companies with low debt positions are selected as companies with higher debt levels are considered higher risk. Hence stocks which have a lower debt ratio compared to the industry average would be chosen.

The formula to calculate the Debt Ratio is total liabilities/total assets.

Advantages of GARP stocks

Growth stocks can be more volatile and they can fall as fast as they climb. These growth stocks can form bubbles so investors who bought too late into the rally can lose significant amounts of money.

Value stocks can take a long time to see stock price appreciation. These stocks may be fundamentally sound but the stock price may not reflect this and it may take a long period before the market has confidence in this stock. GARP stocks demonstrate good earnings growth.

GARP stocks are stocks which have good growth potential but the stock market has not overpriced this stock as yet.

Lauren Hua is a private client adviser at Fairmont Equities.

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