Investors looking for a good mix of growth and value would do well to look at the growth at a reasonable price (GARP) investment strategy. Popularized in the late 1970s by Peter Lynch, the famed investor, the objective of this strategy is to blend growth and value investing. Growth investing focuses on smaller or newer companies that have higher-than-average growth potential, while value investing is an investment strategy in which investors seek out businesses that trade at a discount to their estimated intrinsic value.
GARP investors seek to remain in the middle of the universe when investing in companies by purchasing equities that have above-average growth rates but trade at appropriate valuations that are neither too costly nor too cheap. GARP is an approach to investing in single stocks and should not be confused with a balanced portfolio of value and growth stocks.
The primary goal is to avoid the extremes of either growth or value investing. Under normal market conditions, this often leads GARP investors to growth-oriented equities with relatively low price/earnings (P/E) multiples.
The price/earnings growth (PEG) ratio is a fundamental formula for calculating GARP prospects. The ratio calculates the balance between growth and valuation by dividing its current P/E ratio by its earnings growth rate. The ideal PEG ratio is one or less.
For example, if a company's stock price is $100 per share, and its annual earnings are $10 per share, the P/E ratio is ($100/$10 = 10). If the expected earnings per share (EPS) increases by 20 percent this year, the PEG ratio is (10/20 = 0.5). This company is a suitable candidate for GARP because the PEG is less than one.
GARP aims to avoid the drawbacks or dangers associated with pure growth and pure value stocks. Growth stocks can be more volatile, falling as quickly as they arise. These growth firms can generate bubbles, resulting in significant losses for investors who acquired too late in the surge. In comparison, stock price appreciation in value stocks might take an extended period. These stocks may be fundamentally sound, but their stock prices may not reflect this, and it may be a long time before the market gains confidence in them.
GARP companies are stocks with high growth potential, but the stock market has not yet overpriced them. Investors seek the GARP middle ground to benefit from rising prices while avoiding the risk of a price crash.
However, GARP stocks can underperform growth stocks in a growth market and value stocks in a value market. GARP, on the other hand, can outperform these groups in mixed markets and over the long run.
When compared to either rigid value or growth investing, the hybrid strategy of GARP investing broadens the range of potential investments. GARP investors will beat the out-of-favor component in specific market scenarios where growth factor equities outperform value (or vice versa).
One disadvantage of pure value investing is that investors must constantly look for fresh ideas as low-growth companies approach their inherent value. This turnover can put decision-making execution at risk.
GARP investors understand that high-quality companies attract higher market values and pay a premium for growth in solid companies. The hybrid GARP strategy lets investors experience more predictable returns across market cycles by widening the investing universe to include both growth and value firms.
