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Buy These 5 Low Leverage Stocks to Avoid Interest Rate Risk
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In the world of business finance, leverage is a popular investment strategy, through which companies borrow funds to finance business expansion, purchase inventory and other assets as well as support other aspects of business operations. Since companies have limited funds, they need exogenous funding to boost their financial resources from time to time for expansion of operations. So, a company can rarely avoid borrowing funds.
Although one may resort to equity financing, in corporate finance, debt-financing is a more viable option due to its cheap availability. Another perk of debt financing is that the interest on debt is tax deductible.
Yet, the word “debt” is unnerving for many. This is because while debt brings with it the capacity to spend a little bit more, it also carries the burden of repayment with additional interest in the future. In fact, the related amount of interest expense may overwhelm the borrower if it does not earn sufficient returns to offset the interest expense. This is particularly a problem when interest rates rise or the returns from assets decline.
With the current macroeconomic scenario in the United States being in favor of interest rate hikes, the market seems to be not so suitable for borrowers.
Nevertheless, this does not mean that equity investments are too risky and investing in stocks might not lead to perceived returns. After all, in spite of such high debt levels, the United States remains the largest economy in the world in terms of GDP, representing a quarter share of the global economy per the latest World Bank figures.
In fact, it has been an inherent instrument for corporations to increase their earnings. However, the problem is that companies with high debt loads are more vulnerable during economic downturns and can even go bankrupt, especially in periods of high interest rate.
Considering this, the need of the hour is to choose stocks prudently, avoiding those that carry high debt loads. So the crux of a safe investment lies in identifying low leverage stocks.
This is where the significance of financial leverage ratio comes into play. This ratio measures the extent of financial leverage a company bears. Several leverage ratios have been developed for this purpose, with debt-to-equity ratio being the most popular.
Analyzing Debt/Equity
Debt-to-Equity Ratio = Total Liabilities/Shareholders’ Equity
This metric is a liquidity ratio that indicates the amount of financial risk a company bears. A company with a lower debt-to-equity ratio indicates improved solvency for a company.
With the Q4 reporting cycle well behind us, companies that recorded higher earnings growth will attract investors on probabilities of outperformance in Q1 as well. However, blindly pursuing high earnings yielding stocks, which have a high debt-to-equity ratio, might drain all your money before you know.
The Winning Strategy
Considering the aforementioned factors, it is wise to choose stocks with a low debt-to-equity ratio to ensure safe returns.
However, an investment strategy based solely on the debt-to-equity ratio might not fetch the desired outcome. To choose stocks that have the potential to give you steady returns, we have expanded our screening criteria to include some other factors.
Here are the other parameters:
Debt/Equity less than X-Industry Median: Stocks that are less leveraged than their industry peers.
Current Price greater than or equal to 10: The stocks must be trading at a minimum of $10 or above.
Average 20-day Volume greater than or equal to 50000: A substantial trading volume ensures that the stock is easily tradable.
Percentage Change in EPS F(0)/F(-1) greater than X-Industry Median: Earnings growth adds to optimism, leading to a stock’s price appreciation.
Estimated One-Year EPS Growth F(1)/F(0) greater than 5: This shows earnings growth expectation.
Zacks Rank #1 (Strong Buy) or 2 (Buy): Irrespective of market conditions, stocks with a Zacks Rank #1 or 2 have a proven history of success.
VGM Score of A or B: Our research shows that stocks with a VGM Score of A or B when combined with a Zacks Rank #1 or 2 offer the best upside potential.
Excluding stocks that have a negative or a zero debt-to-equity ratio, here are five of the 26 stocks that made it through the screen.
Louisiana-Pacific Corporation (LPX - Free Report) : The company manufactures building materials and engineered wood products in the United States, Canada, Chile and Brazil. It pulled off an average positive earnings surprise of 5.18% in the trailing four quarters and sports a Zacks Rank #1.
ManpowerGroup (MAN - Free Report) : It is a global leader in the employment services industry. The company carries a Zacks Rank #2 and has delivered an average positive earnings surprise of 2.72% in the trailing four quarters.
Kulicke and Soffa Industries, Inc. (KLIC - Free Report) : It is a leading provider of semiconductor packaging and electronic assembly solutions supporting the global automotive, consumer, communications, computing and industrial segments. The company pulled off an average positive earnings surprise of 49.14% in the trailing four quarters and sports a Zacks Rank #1. You can see the complete list of today’s Zacks #1 Rank stocks here.
Curtiss-Wright Corporation (CW - Free Report) : It is an innovative engineering company that provides high-tech, critical function products, systems and services to the commercial, industrial, defense and power markets. The company sports a Zacks Rank #1 and pulled off an average positive earnings surprise of 15.06% in the trailing four quarters.
DMC Global (BOOM - Free Report) : It is a diversified technology company. The company carries a Zacks Rank #2 and delivered an average positive earnings surprise of 22.95% in the trailing four quarters.
Get the rest of the stocks on the list and start putting this and other ideas to the test. It can all be done with the Research Wizard stock picking and back testing software.
The Research Wizard is a great place to begin. It's easy to use. Everything is in plain language. And it's very intuitive. Start your Research Wizard trial today. And the next time you read an economic report, open up the Research Wizard, plug your finds in, and see what gems come out.
Disclosure: Officers, directors and/or employees of Zacks Investment Research may own or have sold short securities and/or hold long and/or short positions in options that are mentioned in this material. An affiliated investment advisory firm may own or have sold short securities and/or hold long and/or short positions in options that are mentioned in this material.
Zacks Restaurant Recommendations: In addition to dining at these special places, you can feast on their stock shares. A Zacks Special Report spotlights 5 recent IPOs to watch plus 2 stocks that offer immediate promise in a booming sector. Download it free »
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Buy These 5 Low Leverage Stocks to Avoid Interest Rate Risk
In the world of business finance, leverage is a popular investment strategy, through which companies borrow funds to finance business expansion, purchase inventory and other assets as well as support other aspects of business operations. Since companies have limited funds, they need exogenous funding to boost their financial resources from time to time for expansion of operations. So, a company can rarely avoid borrowing funds.
Although one may resort to equity financing, in corporate finance, debt-financing is a more viable option due to its cheap availability. Another perk of debt financing is that the interest on debt is tax deductible.
Yet, the word “debt” is unnerving for many. This is because while debt brings with it the capacity to spend a little bit more, it also carries the burden of repayment with additional interest in the future. In fact, the related amount of interest expense may overwhelm the borrower if it does not earn sufficient returns to offset the interest expense. This is particularly a problem when interest rates rise or the returns from assets decline.
With the current macroeconomic scenario in the United States being in favor of interest rate hikes, the market seems to be not so suitable for borrowers.
Nevertheless, this does not mean that equity investments are too risky and investing in stocks might not lead to perceived returns. After all, in spite of such high debt levels, the United States remains the largest economy in the world in terms of GDP, representing a quarter share of the global economy per the latest World Bank figures.
In fact, it has been an inherent instrument for corporations to increase their earnings. However, the problem is that companies with high debt loads are more vulnerable during economic downturns and can even go bankrupt, especially in periods of high interest rate.
Considering this, the need of the hour is to choose stocks prudently, avoiding those that carry high debt loads. So the crux of a safe investment lies in identifying low leverage stocks.
This is where the significance of financial leverage ratio comes into play. This ratio measures the extent of financial leverage a company bears. Several leverage ratios have been developed for this purpose, with debt-to-equity ratio being the most popular.
Analyzing Debt/Equity
Debt-to-Equity Ratio = Total Liabilities/Shareholders’ Equity
This metric is a liquidity ratio that indicates the amount of financial risk a company bears. A company with a lower debt-to-equity ratio indicates improved solvency for a company.
With the Q4 reporting cycle well behind us, companies that recorded higher earnings growth will attract investors on probabilities of outperformance in Q1 as well. However, blindly pursuing high earnings yielding stocks, which have a high debt-to-equity ratio, might drain all your money before you know.
The Winning Strategy
Considering the aforementioned factors, it is wise to choose stocks with a low debt-to-equity ratio to ensure safe returns.
However, an investment strategy based solely on the debt-to-equity ratio might not fetch the desired outcome. To choose stocks that have the potential to give you steady returns, we have expanded our screening criteria to include some other factors.
Here are the other parameters:
Debt/Equity less than X-Industry Median: Stocks that are less leveraged than their industry peers.
Current Price greater than or equal to 10: The stocks must be trading at a minimum of $10 or above.
Average 20-day Volume greater than or equal to 50000: A substantial trading volume ensures that the stock is easily tradable.
Percentage Change in EPS F(0)/F(-1) greater than X-Industry Median: Earnings growth adds to optimism, leading to a stock’s price appreciation.
Estimated One-Year EPS Growth F(1)/F(0) greater than 5: This shows earnings growth expectation.
Zacks Rank #1 (Strong Buy) or 2 (Buy): Irrespective of market conditions, stocks with a Zacks Rank #1 or 2 have a proven history of success.
VGM Score of A or B: Our research shows that stocks with a VGM Score of A or B when combined with a Zacks Rank #1 or 2 offer the best upside potential.
Excluding stocks that have a negative or a zero debt-to-equity ratio, here are five of the 26 stocks that made it through the screen.
Louisiana-Pacific Corporation (LPX - Free Report) : The company manufactures building materials and engineered wood products in the United States, Canada, Chile and Brazil. It pulled off an average positive earnings surprise of 5.18% in the trailing four quarters and sports a Zacks Rank #1.
ManpowerGroup (MAN - Free Report) : It is a global leader in the employment services industry. The company carries a Zacks Rank #2 and has delivered an average positive earnings surprise of 2.72% in the trailing four quarters.
Kulicke and Soffa Industries, Inc. (KLIC - Free Report) : It is a leading provider of semiconductor packaging and electronic assembly solutions supporting the global automotive, consumer, communications, computing and industrial segments. The company pulled off an average positive earnings surprise of 49.14% in the trailing four quarters and sports a Zacks Rank #1. You can see the complete list of today’s Zacks #1 Rank stocks here.
Curtiss-Wright Corporation (CW - Free Report) : It is an innovative engineering company that provides high-tech, critical function products, systems and services to the commercial, industrial, defense and power markets. The company sports a Zacks Rank #1 and pulled off an average positive earnings surprise of 15.06% in the trailing four quarters.
DMC Global (BOOM - Free Report) : It is a diversified technology company. The company carries a Zacks Rank #2 and delivered an average positive earnings surprise of 22.95% in the trailing four quarters.
Get the rest of the stocks on the list and start putting this and other ideas to the test. It can all be done with the Research Wizard stock picking and back testing software.
The Research Wizard is a great place to begin. It's easy to use. Everything is in plain language. And it's very intuitive. Start your Research Wizard trial today. And the next time you read an economic report, open up the Research Wizard, plug your finds in, and see what gems come out.
Click here to sign up for a free trial to the Research Wizard today.
Disclosure: Officers, directors and/or employees of Zacks Investment Research may own or have sold short securities and/or hold long and/or short positions in options that are mentioned in this material. An affiliated investment advisory firm may own or have sold short securities and/or hold long and/or short positions in options that are mentioned in this material.
Disclosure: Performance information for Zacks’ portfolios and strategies are available at: https://www.zacks.com/performance.
Zacks Restaurant Recommendations: In addition to dining at these special places, you can feast on their stock shares. A Zacks Special Report spotlights 5 recent IPOs to watch plus 2 stocks that offer immediate promise in a booming sector. Download it free »