In the long run, a stock will grow at the same rate profits do, providing the P/E stays the same. So, a company that grows profits 12% a year could see its stock grow 12% a year. In the above example, General Electric (GE) had similar profit growth and stock growth rates.
An excellent example of faster profit growth leading to more rapid stock growth can be found in the Target (TGT) chart below. From 1996-2005 TGT grew profits 24% a year the stock compounded at 24% per year.
Sharek’s Rule of 72 states: The number of years for a stock to double can be estimated by dividing 72 by the rate profits are expected to grow. So 12% growers can expect to double in six years, quadruple in twelve years. On the other hand, 24% profit-growers could double in three years, quadruple in six years, and be up eight-fold in nine years. GE & TGT resemble these returns, with GE tripling during the 1996-2005 decade and TGT rising ten-fold. 24% growers — that’s what we should shoot for.
Sharek’s Rule of 72 |
||||
72 |
/ |
Annual Profit Growth |
= |
Stock Doubles Every |
72 |
/ |
12% |
= |
6 years |
72 |
/ |
16% |
= |
4.5 years |
72 |
/ |
24% |
= |
3 years |
72 |
/ |
36% |
= |
2 years |
