Peter Lynch was an investor at Fidelity Investments from 1966 to 1990. From 1977 to 1990 he managed the massively successful Magellan Fund, which averaged a 29.2% return under his leadership. Lynch became known for choosing simple, obscure stock ideas that he usually found outside of the office. Like many famous investors, he developed his own method for valuing the intrinsic value of a stock, dubbed the Peter Lynch Fair Value.
Peter Lynch Fair Value = PEG * 5-Year Earnings Growth Rate * Earnings
(If the 5-Year Earnings Growth Rate is greater than 20% a year, we use 20.)
Peter Lynch Fair Value applies to growing companies. The ideal range for the growth rate is between 10% and 20% a year.
Peter Lynch thinks that the fair P/E value for a growth company equals its growth rate, that is PEG = 1. The earnings here are trailing 12-month (TTM) earnings. The growth rate GuruFocus uses is the average growth rate for earnings per share over the past five years.
Many of the stocks in well-known investor Donald Yacktman’s portfolio can be valued using the Peter Lynch Value formula:
|Price||Peter Lynch Value|
|Apollo Group Inc. (APOL)||36.35||97.72|
|PepsiCo Inc. (PEP)||70.75||58.55|
|C.R. Bard Inc. (BCR)||107.81||43.5|
|The Coca-Cola Co. (KO)||78.93||42.45|
|Hewlett-Packard Co. (HPQ)||20.155||29.91|
|Viacom Inc. (VIA.B)||47.785||28.08|
|Leucadia National Corp. (LUK)||21.53||28.96|
|Intel Corp. (INTC)||26.69||25.03|
|UnitedHealth Group Inc. (UNH)||56.23||62.96|
|eBay Inc. (EBAY)||41.24||27.89|
|Research In Motion (RIMM)||7.49||55.75|
|Walgreen Co. (WAG)||29.87||28|
|Stryker Corp. (SYK)||54.66||33.12|
|The TJX Companies Inc. (TJX)||43.21||20.64|
The table above shows that of the top 15 of Donald Yacktman’s stocks with a Peter Lynch Value, only 5 are trading above their Peter Lynch Value, and the rest would be considered overpriced.
Two stocks, however, have a long way to go to reach their fair value: Apollo Group (APOL) and Research In Motion (RIMM). Three others are slightly undervalued: Hewlett-Packard (HPQ), Leucadia (LUK) and UnitedHealth Group (GS).
In addition to fair value, Lynch looked for other indications that a stock would perform well. “I think you have to learn that there's a company behind every stock,” he said, “and that there's only one real reason why stocks go up. Companies go from doing poorly to doing well or small companies grow to large companies.”
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