The popularity of value investing is growing by leaps and bounds, not just because of its appropriateness in the current market scenario, but mostly for the reason that it is one of the favorite investing mantras of billionaire investors. However, apparently simple to understand, this investing discipline has historically shown dangerous outcomes a number of times just because of people’s oversight of its basics.
Warren Buffet believes that proper understanding of the “intrinsic value” of a stock may ease out many problems in this respect. According to him, going by the fundamentals of value investing, as we pick stocks which the market is currently undervaluing, we also need to focus on the earnings growth potential of a stock.
While yardsticks such as dividend yield, the ratio of price to earnings, to sales or to book value are the most common value investing matrices which can easily single out stocks trading at a discount, these ratios fail to consider the future potential of a stock. PEG is the ratio with earnings growth component in it, however it is supposed to be one of the solutions here.
The PEG ratio is defined as: (Price/ Earnings)/ Earnings Growth Rate
A lower PEG ratio is always better for value investors.
While P/E alone fails to identify a true value stock, PEG helps finding the intrinsic value of a stock.
Unfortunately, this ratio is often neglected due to investors’ limitation to calculate the future earnings growth rate of a stock.
There are some drawbacks to using the PEG ratio though. It doesn’t consider the very common situation of changing growth rates such as the forecast of the first three years at a very high growth followed by a sustainable but lower growth rate in the long term.
Hence, PEG-based investing can turn out to be even more rewarding if some other relevant parameters are also taken into consideration.
Here are the screening criteria for a winning strategy:
PEG Ratio less than X Industry Median
P/E Ratio (using F1) less than X Industry Median
(For more accurate valuation purpose.)
Zacks Rank of 1 (Strong Buy) or 2 (Buy) (Whether good market conditions or bad, stocks with a Zacks Rank #1 or #2 have a proven history of success.)
Market Capitalization greater than $1 Billion (This helps us to focus on companies that have strong liquidity.)
Average 20 Day Volume greater than 50,000: A substantial trading volume ensures that the stock is easily tradable.
Percentage Change F1 Earnings Estimate Revisions (4 Weeks) greater than 5%: Upward estimate revisions add to the optimism, suggesting further bullishness.
Value Score of less than or equal to B: Our research shows that stocks with a Style Score of ‘A’ or ‘B’ when combined with a Zacks Rank #1, 2 or 3 offer the best upside potential.
Here are five of the 18 stocks that qualified the screening:
Seagate Technology plc (STX - Free Report) : This is an electronic data storage technology and solutions company with business spread across Singapore, the U.S., the Netherlands, among its other markets. Seagate can be an impressive value investment pick with its Zacks Rank #1 and Value Style Score ‘A’. Apart from a discounted PEG and P/E, the stock also has an impressive expected growth rate of 64% for the current fiscal.
POSCO (PKX - Free Report) : POSCO is a steel rolled products and plates provider in South Korea and internationally. This Zacks Rank #1 and Value Style Score ‘A’ company also has an impressive growth rate of 27.5% for the next fiscal. You can see the complete list of today’s Zacks #1 Rank stocks here.
Sabre Corporation (SABR - Free Report) : This is the leading technology provider to the global travel industry. Sabre's software, data, mobile and distribution solutions are used by hundreds of airlines and thousands of hotel properties to manage critical operations, including passenger and guest reservations, revenue management, flight, network and crew management. The company can be an impressive value investment pick with its Zacks Rank #1 and Value Style Score ‘B’. The company’s long-term expected earnings growth rate is at 17.3%.
TurkcellIletisimHizmetleri AS (TKC - Free Report) : This company is a provider of mobile telecommunication services. The company operates in two segments, Turkcell Turkey and Turkcell International. It offers mobile communication and fixed voice services; and broadband services that consist of mobile broadband, fiber to the home/building, and ADSL. The company holds a Zacks Rank #1 and a Value Style Score ‘B’. It also has an impressive growth rate of 7.1% for the next fiscal.
Bank of America Corporation (BAC - Free Report) : Headquartered in Charlotte, NC, Bank of America Corporation is a financial holding company. Its banking and non-banking subsidiaries provide a diverse range of banking and non-banking financial services and products. The stock can also be an impressive value investment pick with its Zacks Rank #2 and Value Style Score ‘B’.
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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.
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