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Analyst Blog

Equity markets generally gain stability post elections. However, though the U.S. markets rallied after Trump’s win, the momentum can fizzle anytime leading to volatility. With such uncertainty about the direction of the market post elections, it is prudent to pick value stocks.

In value investing, it is a common practice to pick stocks that are cheap but fundamentally strong. There are a number of investment styles to suit the predilection of hundreds of investors looking for the best value stocks.

Among them, the price-to-book ratio (P/B ratio) is an easy-to-use tool for identifying low-priced stocks which have high-growth prospects.

The P/B ratio is used to calculate how much an investor needs to pay for each dollar of book value of a stock. It is calculated by dividing the current closing price of the stock by the latest quarter's book value per share.

Explaining Book Value

There are several ways by which book value can be defined. Book value is the total value that would be left over, according to the company’s balance sheet, if it goes bankrupt immediately. In other words, this is what shareholders would theoretically receive if a company liquidates all its assets after paying off all its liabilities.

It is calculated by subtracting total liabilities from the total assets of a company. In most cases, this would equate to the common stockholders’ equity on the balance sheet. However, depending on the company’s balance sheet, intangible assets should also be subtracted from total assets to determine the book value.

What is P/B Ratio?

By comparing book value of equity to its market price, we get an idea of whether a company is under- or overpriced. However, like P/E or P/S ratio, it is always better to compare P/B ratios within industries. 

A P/B ratio less than one means that the stock is trading at less than its book value, or the stock is undervalued and therefore a good buy. Conversely, a stock with a ratio greater than one can be interpreted as being overvalued or relatively expensive.

But there is a caveat. A P/B ratio less than one can also mean that the company is earning weak or even negative return on its assets, or the assets are overstated, in which case the stock should be shunned because it may be destroying shareholder value. Conversely, the stock’s share price may be significantly high – thereby pushing the P/B ratio to more than one – in the likely case that it has become a takeover target, a good enough reason to own the stock.

Moreover, the P/B ratio isn't without its limitations. It is useful for businesses – like finance, investments, insurance and banking or manufacturing companies – with many liquid/tangible assets on the books. However, it can be misleading for firms with large R&D expenditures or high-debt companies or service companies or those with negative earnings.

In any case, the P/B is not particularly relevant as a standalone number. One should also analyze other ratios like P/E, P/S, and debt to equity before arriving at a reasonable investment decision.

Screening Parameters

Price to Book (common Equity) less than X-Industry Median: A lower P/B compared with the industry average implies that there is enough room for the stock to gain.

Price to Sales less than X-Industry Median: The P/S ratio determines how much the market values every dollar of the company’s sales/revenues — a lower ratio than the industry makes the stock attractive.

Price to Earnings using F(1) estimate less than X-Industry Median: The P/E ratio (F1) values a company based on its current share price relative to its estimated earnings per share –  a lower ratio than the industry is considered better.

PEG less than 1:PEG ratio links the P/E ratio to the future growth rate of the company. PEG ratio portrays a more complete picture than the P/E ratio. A value of less than 1 indicates that the stock is undervalued and investors need to pay less for a stock that has a bright earnings growth prospect.

Current Price greater than or equal to $5: They must all be trading at a minimum of $5 or higher.

Average 20-Day Volume greater than or equal to 100,000: A substantial trading volume ensures that the stock is easily tradable.

Zacks Rank less than or equal to #2: Zacks Rank #1 (Strong Buy) or 2 (Buy) stocks are known to outperform irrespective of the market environment.

Value Style Score equal to A or B: Our research shows that stocks with a Value Style Score of ‘A’ or ‘B’ when combined a Zacks Rank #1 or 2 offer the best opportunities in the value investing space.

Here are five of the eight stocks that qualified the screening:

General Motors Company (GM - Free Report) , a leading global automotive company, has a projected 3–5 year EPS growth rate of 8.89%. Currently, the stock has a Value score of ‘A’ and a Zacks Rank #2. You can see the complete list of today’s Zacks #1 Rank stocks here.

Dean Foods Company (DF - Free Report) is a leading processor and distributor of milk and other dairy products in the U.S. as well as a leading manufacturer of various specialty food products. The stock currently has a Zacks Rank #2 and a Value score of ‘A’. The company’s projected 3–5 year EPS growth rate is 12%.

Mallinckrodt Public Limited Company (MNK - Free Report) , a specialty biopharmaceutical company, currently has a Zacks Rank #2 and a Value score of ‘A’. The company’s projected 3–5 year EPS growth rate is 9.73%.

PennyMac Financial Services, Inc. (PFSI - Free Report) is a financial services company with a projected 3–5 year EPS growth rate of 10%. Currently, PennyMac Financial Services has a Zacks Rank #2 and a Value score of ‘A’.

FTD Companies, Inc. (FTD - Free Report) , a floral and gifting company, has a Zacks Rank #2 and a Value score of ‘A’. Its projected 3–5 year EPS growth rate is 20%.

You can get the rest of the stocks on this list by signing up now for your 2-week free trial to the Research Wizard and start using this screen in your own trading. Further, you can also create your own strategies and test them first before taking the investment plunge.

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 trial to the Research Wizard 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.

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