How to find value stocks to invest in?
Value stocks are those stocks that are considered to be under-valued in the stock market. These are thought to have the potential for a value increase if the market makes a price correction. By using a company's factors such as its assets, earnings, and dividend payouts, the intrinsic value of a stock can be found and compared to its market value. Examples of what are commonly viewed as value stocks are Citicorp (C), ExxonMobil (XOM)and JPMorgan Chase (JPM).
Value investors expect the market to eventually shine on those companies that are making more money for their price than their peers. Value investors argue that a short-term focus can often push stock prices to low levels, which creates great buying opportunities for value investors.
Value investing is an investment philosophy that involves purchasing assets at a discount to their intrinsic value. This is also known as a security's margin of safety. Benjamin Graham, known as the father of value investing, first established this term with his landmark book, The Intelligent Investor, in 1949. Notable proponents of value investors include Warren Buffett, Seth Klarman, Mohnish Pabrai, and Joel Greenblatt.
Why do people buy value stocks?
Although tech stocks have outperformed other sectors over the past decade, a surprising fact is that value stocks have delivered much greater returns over the long haul. An analysis by Anchor Capital Advisors shows that since 1927, a dollar invested in value stocks would have grown nearly 18 times faster than the same dollar invested in growth. That's why there is a large cohort of value investors, including Warren Buffett, who are devoted to this investment strategy.
Are they right? The answer is both yes and no. Plenty of “expensive” stocks have been great investments over the years: Facebook or Amazon are recent examples. Others, known as “value traps,” are cheap because they’re bad companies on the decline. Even with the best metrics, the stock market remains unpredictable.
What are the risks of value investing?
Both growth and value stocks come with their own risks. Growth stocks might be volatile and not grow. Value stocks might not gain momentum and suffer a collapse.
The most widespread saying in stock investing is – “buy low, sell high”. But this is easier said than done. There are times when stocks that are beaten down unfairly can create some of the best opportunities if you have patience. But then, there are times that a stock, even after a drastic fall in its price, continues to slide despite cheap valuations. This kind of stock is what is known as a “value trap”, whereby the stock appears to be cheap because of low multiples of price-to-earnings (P/E), price-to-book value (P/BV), or even cash flow. Investors looking for a bargain buy into such a company only to never see the stock price improve again.
What are value stocks vs growth stocks?
Growth stocks are considered by analysts to have the potential to outperform either the overall markets or else a specific subsegment of them for a period of time. Growth companies are considered to have a good chance for considerable expansion over the next few years, either because they have a product or line of products that are expected to sell well or because they appear to be run better than many of their competitors and are thus predicted to gain an edge on them in their market.
Value stocks are usually larger, more well-established companies that are trading below the price that analysts feel the stock is worth, depending upon the financial ratio or benchmark that it is being compared to. Value stocks are at least theoretically considered to have a lower level of risk and volatility associated with them because they are usually found among larger, more established companies. And even if they don’t return to the target price that analysts or the investor predict, they may still offer some capital growth, and these stocks also often pay dividends as well. Growth stocks, meanwhile, will usually refrain from paying out dividends and will instead reinvest retained earnings back into the company to expand. Growth stocks' probability of loss for investors can also be greater, particularly if the company is unable to keep up with growth expectations.
When comparing growth or value stocks, think about a few different things: how long the company has been operating, and the conditions of the market and industry. Value stocks tend to outperform during bear markets and economic recessions, while growth stocks tend to excel during bull markets or periods of economic expansion. If you find you have only one kind in yours, consider the main benefit of diversification: mitigating risk. If you are just getting started, plan your portfolio to have a good mix of value and growth stocks.
How to find value stocks to invest in?
One quick way to find a value stock is to compare their price/earnings (P/E) ratios, often considered a measure of how over- or undervalued a company's stock is. If the price-to-earnings ratio is in the bottom 10% of all company's stock, it is undervalued. This means it is a value stock because the price is likely to rise in the future. Imagine a company with annual reported earnings of $1 per share. The stock is priced at $5, which means it's trading at a 5-times P/E multiple, which might be considered low when compared to other stocks in the same industry. This low multiple suggests that the market does not expect earnings to grow very rapidly in the future. If the company's fundamentals are strong and consistent future earnings are likely, this could very well be a value stock.
Similarly, price-to-sales (P/S) shows how much the market values every dollar of the company's sales. If the P/S ratio is lower than comparable companies in the same industry that is profitable, investors might consider buying the stock due to the low valuation.
If a stock has hit 52-week lows and has a high debt-to-equity ratio compared to the rest of the industry, it might be in the beginning stages of growth. Use this ratio carefully because it might show the firm has an unsustainable debt level.
The current ratio is a measure of how a firm can cover its short-term debts with current assets. Current assets are assets that can be sold or liquidated within the next year. Short-term obligations are due within the next year.
Tangible book value is the value of a share reported on the last balance sheet. If a stock's share price is below the book value, the stock might be undervalued. It is likely to receive a correction from the market.
Best Value Stocks to Invest In
Some of the popular value stocks on the market in the United States include Apple Inc. (NASDAQ: AAPL), Bank of America Corporation (NYSE: BAC), Berkshire Hathaway Inc. (NYSE: BRK-A), and General Motors Company (NYSE: GM), among others. These firms have historically delivered solid earnings and remained relatively immune from economic recessions over the past few years, mostly because of the competitive edge of their products and services over peers in the open marketplace.
Here are 16 high-quality value stocks, all paying an above-average dividend and poised to benefit from a strengthening U.S. economy in 2022. These were ranked keeping in mind the size of the company, the price to earnings ratio, hedge fund sentiment, analyst ratings, and basic business fundamentals.
Berkshire Hathaway
Since CEO Warren Buffett took over in 1964, Berkshire Hathaway has snowballed into a conglomerate of more than 60 wholly owned businesses and a massive stock portfolio with more than four dozen different positions. Berkshire has steadily increased its book value and earnings power over time — and it currently operates under the same business model that has led the stock to more than double the annualized return of the S&P 500 index for over 55 years.
Tyson Foods
Tyson Foods (TSN) produces approximately 20% of the beef, pork and chicken consumed in the U.S. It supplies meat to national restaurant chains, club stores, grocery stores and foodservice customers. The company's portfolio of brands includes Tyson, Jimmy Dean, Hillshire Farms, Ball Park, Wright, Aidell's and State Fair.
Tyson has a nine-year record of raising dividends and has generated impressive 26% annual dividend growth, on average, over five years, while keeping payout below 30%. TSN shares are conservatively valued at 13 times forward P/E and a nearly 40% discount to other consumer staples stocks.
General Mills
General Mills (GIS) makes cereals (Cheerios and Chex), yogurt (Yoplait), ice cream (Haagen Dazs) and other foods. Eight of the company's brands each generate over $1 billion of annual sales, and General Mills hit a home run with its Blue Buffalo pet food business, which has been delivering double-digit sales growth. The company is expanding its pet food franchise by acquiring Tyson Food's pet treats business.
GIS shares are valued at a 17 times forward P/E multiple and at a 22% discount to their consumer staple sector peers.
Procter & Gamble
Consumer products manufacturer Procter & Gamble is the company behind brands such as Gillette, Tide, Downy, Crest, Febreze, and Bounty, but there are dozens more in its product portfolio. Through the success of its many brands, Procter & Gamble has been able to steadily add to its revenue over time and has become one of the most reliable dividend stocks in the market, increasing its payout annually for more than 60 consecutive years.
Like other consumer staples companies, P&G has gotten a healthy boost from the pandemic. Organic sales, which exclude the balance sheet impacts of acquisitions, divestitures, and currency exchanges, increased 4% in the quarter ending in March 2021. The company's growth in beauty, fabric, and home care was the most robust.
Bristol Myers Squibb
Bristol Myers Squibb (BMY) develops life-saving therapeutics in the areas of hematology, oncology, cardiovascular and immunology. Its portfolio of blockbuster drugs includes Opdivo, Yervoy and Abraxane for cancer, Revlimid and Pomalyst for blood disorders, Eliquis for reduced risk of strokes and Orencia for rheumatoid arthritis.
As far as value stocks go, BMY shares look especially bargain-priced at a 63% discount to healthcare competitors and a lowly 9 times forward P/E. In addition, the company has delivered 14 consecutive years of dividend growth, including a 9% hike in 2020.
Johnson & Johnson
The healthcare giant is best known for its consumer healthcare products, such as the Band-Aid, Tylenol, Neutrogena, Listerine, and Benadryl brand names, just to name a few. But the majority of its revenue comes from its pharmaceutical and medical device businesses. Healthcare is one of the most recession-resistant businesses in the economy, and Johnson & Johnson has produced steady revenue (and dividend) growth over time.
AbbVie
Best known for Humira, the world's top-selling drug, AbbVie (ABBV, $115.42) hopes to offset declining Humira revenues caused by biosimilar competition with newer blockbuster treatments such as Skyrizi (psoriasis), Rinvoq (rheumatoid arthritis) and Imbruvica (solid tumors).
Analysts see ABBV as one of the best value stocks in the healthcare sector, with 17 of 23 pros giving the shares Buy or Strong Buy ratings. The company has generated eight consecutive years of dividend growth, with annual hikes exceeding 18%, on average, over five years.
The Kraft Heinz Company
KHC is one of the leading food and beverage companies with a diverse portfolio of iconic and emerging brands. KHC has been focused on growing its business across all segments by investing in product development and its e-commerce platform. The company has also been undertaking measures to augment efficiency in supply chain management and control costs.
KHC currently pays an annual dividend of $1.60 per share, which yields 4.58% based on its current price. While the company cut its quarterly dividend in 2019, the current dividend yield is attractive for income investors. The company should be able to sustain the current dividend level, as it has been witnessing continued growth in free cash flow.
Coty Inc.
Coty is a maker and distributor of beauty products. The company's products include color cosmetics, hygiene products, fragrances, sun care products, and skin treatments. Coty products are sold in department stores, retailers, and airport duty-free shops around the world.
Final thought
There have been times, like in the late 1990s, when growth stocks have done well. There are other periods when value stocks outperformed growth stocks. You should hold both in order to diversify your portfolio and hedge risk.
Glossary
Return on equity (ROE) is a measure of how well a company uses the money from its investors. It helps to compare stocks across the industry the company is in. This gives you an idea of how the ROE stacks up against its competitors.
Earnings per share (EPS) is the earnings that one share of stock brings in for its investors. This measures the ability of a company to generate profits for common shareholders. If EPS is growing, but the number of outstanding shares holds steady, it shows there is more capital being generated with the same number of shares.
Earnings before taxes (EBT) is also called the pre-tax margin ratio. It's important because it shows a company's operational efficiency. Is the company translating sales into earnings? Is management controlling costs? EBT should continually exceed the past five-year average and the industry average to establish growth.
Stock price projections are based on the firm's business model, market position, economic and consumer trends, and expected investor sentiments.
Price-earnings ratio (P/E) is the ratio of a company's share price to the company's earnings per share. The ratio is used for valuing companies and to find out whether they are overvalued or undervalued.
Price-to-sales (P/S) is a valuation metric for stocks. It is calculated by dividing the company's market capitalization by the revenue in the most recent year; or, equivalently, divide the per-share stock price by the per-share revenue.
Price-to-earnings growth ratio (PEG) is a valuation metric for determining the relative trade-off between the price of a stock, the earnings generated per share, and the company's expected growth. In general, the P/E ratio is higher for a company with a higher growth rate.
Debt-to-equity ratio (D/E) is a financial ratio indicating the relative proportion of shareholders' equity and debt used to finance a company's assets. Closely related to leveraging, the ratio is also known as risk, gearing or leverage.
Current ratio is a liquidity ratio that measures whether a firm has enough resources to meet its short-term obligations.
Tangible book value per share (TBVPS) is the value of a company's tangible assets divided by its current outstanding shares. TBVPS determines the potential value per share of a company in the event that it must liquidate its assets. Assets such as property and equipment are considered tangible assets
