It isn’t fun being a value investor right now. Just 8 months ago, value investors had the stock markets at their feet. The S&P 500 was trading at just 10 times earnings, and some blue chips were trading at multi-decade lows.
And then, poof!
Before value investors could even blink, stocks moved higher and, so far, haven’t looked back. Over the next 8 months, the valuation on the S&P 500 nearly doubled.
Make no mistake; the rally has been great. Every investor has benefitted. For value investors, current market conditions are both the best of times and the worst of times.
Who doesn’t feel a tinge of jealousy as growth investors cash in on multi-decade highs for stocks like Amazon.com? If you’re like me, sometimes it’s tempting to just throw in the towel and follow the crowd into the growth stocks, even if they are trading with P/Es at 50 or higher.
But never fear. Value investing isn’t dead. Value stocks are still out there, even amidst this once-in-a-generation stock rally. It’s just a matter of digging deeper than usual to find them.
Look Beyond the P/E Ratio
Most value investors know to look at the price-to-earnings ratio (or P/E) to find stocks that are undervalued. To find true value remember that the lower the P/E, the more undervalued the stock.
Many value investors use a P/E under 20, which is a great starting point in normal markets. However, stocks are more expensive now.
So while you should start with the P/E ratio, don’t end there. You’re going to need some more tools in your arsenal to find the true value stocks.
3 Tools to Use to Dig for Value Stocks
- Use Price-to-Sales
Many value investors neglect the sales component, which is a mistake since sales, unlike earnings, cannot easily be manipulated. There are no “charges” or “exclusions” or other accounting hocus pocus with sales. They usually are what they are, which makes it easy to compare quarter over quarter and year over year. The lower the P/S ratio, the better. Look for a P/S ratio less than 1. - Growth is still your friend
Growth? For value investors? Value investors can use the PEG ratio, which is the price-to-earnings ratio (P/E) divided by earnings growth. Once again, the more undervalued the stock, the lower the PEG ratio. Look for PEG ratios under 1 for undervalued stocks. - Look at the Industry Rank
This is a little known factor that can give you powerful results when used with a value metric. Zacks ranks industries according to improving earnings prospects, so value investors can look at the Industry Rank lists to get an idea of which industries have rising earnings estimates. The Zacks Industry Rank is the average of the Zacks Rank for all companies in the industry. Just like with the Zacks Rank, the lower it is, the better. So a Zacks Industry Rank of 1.00 is better than one of 4.35.
Value Is King in Bull and Bear Markets
Numerous studies of bull and bear markets throughout the world come to one conclusion: it may not be glamorous, but value investing outperforms growth investing over the long term.
Is it any surprise that one of the greatest investors of all time, Warren Buffett, is a value investor?
Now is the time to stay the course. Don’t let the expensive stocks like Amazon blind you with their glamour. Value is still king.
Digging for Value Every Day
I know how frustrating it is to find value stocks as the markets continue to climb. I seek out value stocks every trading day with the Zacks Value Trader trading service, and some days there just isn’t much to get excited about. But all it takes is finding a hidden gem here and there for a value investor to really profit.
Just a few days ago, for instance, I added an American generic drug company to the Value Trader portfolio. It has great “digging deep” value fundamentals, such as a price-to-sales ratio of just 0.9 and a low PEG ratio of 0.19. On top of that, analysts believe it has great earnings growth prospects of 52.26% over the next five years. Amazon, by comparison, is expected to grow at just 32.56% over the same time period. Take that Amazon!
The Value Trader has dug deep to find many other great stocks in 2009 and is up +38.5% over the first 9 months of the year. That is nearly double the S&P 500 over the same time period, proving that value hasn’t gone away; you just have to know where to look.
I invite you to see what stocks are in the portfolio and learn the secrets behind the Value Trader’s success. Be sure to check it out before the special offer ends on Saturday October 31.
All the Best,
Tracey Ryniec
Tracey, as Zacks Value Stock Strategist, helps Zacks.com customers find the best value stocks through her daily commentary. She is also the Editor in charge of the market-beating Zacks Value Trader.
