If you are not sure whether to invest your money in bonds or stocks, a key parameter that can show you the right direction is earnings yield. It is the reciprocal of price-to-earnings (P/E) ratio. This ratio is quite effective for determining undervalued stocks. Also, this ratio is useful for comparing stocks with the market or fixed income securities.
Earnings yield can be calculated as (annual earnings per share/market price) x 100. While comparing similar stocks, the one with high earnings yield should fetch higher returns.
This ratio is very effective for comparing the market performance with the 10-year Treasury yield. When the yield of the market index is higher than the 10-year Treasury yield, stocks can be said to be undervalued in comparison to bonds. This implies that investing in the stock market is a better option for a value investor.
However, while T-bills are free from risks, investing in stocks always carries some inherent risks. Hence, it will be wise to add a risk premium to the Treasury yield while comparing with the earnings yield of a stock or the broader market.
The Winning Strategy
We have set Earnings Yield greater than 10% as our primary screening criterion, but it alone cannot be used for picking stocks that have the potential of generating solid returns. So, we have added the following parameters to the screen:
Estimated EPS growth for the next 12 months greater than or equal to the S&P 500: This metric compares the 12-month forward EPS estimate with the 12-month actual EPS.
Average Daily Volume (20 Day) greater than or equal to 100,000: High trading volume implies that a stock has adequate liquidity.
Current Price greater than or equal to $5.
Buy-Rated Stocks: Stocks with a Zacks Rank #1 (Strong Buy) or 2 (Buy) have been known to outperform peers in any type of market environment. You can see the complete list of today’s Zacks #1 Rank stocks here.
Here are five of the 53 stocks that made it through the screen:
General Motors (GM - Free Report) : Based in Detroit, General Motors is one of the leading U.S. automakers, sporting a Zacks Rank #1 presently. It has an expected EPS growth rate of 9.9% for the next three-five years.The Zacks Consensus Estimate for 2021 earnings suggests year-over-year growth of 76.2%.
AutoNation (AN - Free Report) : Based in Florida, AutoNation is one of the largest retail automobile dealership group in the United States. This Zacks Rank #1 company has an expected EPS growth rate of 8.1% for the next three-five years. The Zacks Consensus Estimate for 2020 earnings suggests year-over-year growth of 20%.
Vista Outdoor (VSTO - Free Report) : Headquartered in Utah, Vista Outdoor is the manufacturer of ammunition and outdoor sporting goods. The company carries a Zacks Rank #2 at present. The Zacks Consensus Estimate for fiscal 2021 earnings suggests year-over-year growth of 750%.
Jazz Pharmaceuticals (JAZZ - Free Report) : Dublin-based Jazz Pharmaceuticals is a specialty biopharmaceutical company focused on the areas of sleep and hematology/oncology. This Zacks Rank #2 company has an expected EPS growth rate of 8.9% for the next three-five years.The Zacks Consensus Estimate for 2021 earnings suggests year-over-year growth of 35%.
Toll Brothers Inc. (TOL - Free Report) : Pennsylvania-based home builder Toll Brothers currently carries a Zacks Rank #2. It has an expected EPS growth rate of 3.8% for the next three-five years.The Zacks Consensus Estimate for 2021 earnings suggests year-over-year growth of 39.3%.
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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