What are value stocks and how do you find them?

Feature image of stock market figures and indices
Rebecca Cattlin
By :  ,  Financial Writer

Value stocks are a popular category of shares that are viewed as undervalued. Finding value stocks is a common strategy for traders who want to take advantage of the possible share price growth that could follow. Discover how to find value stocks and see some value stocks to watch.

 

What is a value stock?

A value stock is the name given to a company’s shares that trade at a lower price when compared to its fundamentals. This means that by looking at dividends, earnings, or sales, its intrinsic value is higher than its current market price.

Value stocks only have low prices because the market has undervalued them. So, traders and investors will seek to identify value stocks in order to benefit from the share price correcting to better reflect the company’s true value.

Value stocks are often more mature companies that are having temporary issues. For example, these companies often trade at a lower price compared to others in their industry that have similar fundamentals, due to negative press or legal troubles.

 

How to find a value stock

To find a value stock, you’ll need to first assess what the true or intrinsic value of the company is and then whether its share price is currently above or below that price.

There are a few metrics that are commonly used to find value stocks, including the:

  • Price-to-earnings ratio (P/E) – this measures the current share price versus the per-share earnings (EPS), it tells us whether a company’s share price is over or undervalued compared to its recent earnings
  • Price-to-earnings growth ratio (PEG) – by dividing the P/E ratio by the rate at which a company’s profits increase, we can see whether there’s room for change in the share price
  • Debt-to-equity ratio – this ratio divides a company’s liabilities by its shareholder equity. It tells us how a company is financing its operations. Companies with high debt-to-equity ratios compared to the rest of their industry could be burgeoning growth stocks on the precipice of a bullish run. Or they really are just firms that have unsustainable debt, so watch out
  • Current ratio – by measuring how a firm can cover short-term debts with current assets, it shows how stable a business is. Value stocks, while undervalued, should still be managing assets efficiently. The current ratio helps make comparisons with competitors

Take a look at financial ratios in more detail.

 

Difference between growth and value stocks

Value stocks are normally contrasted to growth stocks. While value stocks have strong fundamentals, but a comparatively cheap share price, growth stocks have rapidly expanding profits and revenues, but already have a high price tag.

Learn more about growth stocks.

Value stocks are often considered riskier than growth stocks, because the company has to change the public’s perception of it to regain favour with investors. However, growth stocks tend to see more volatility than value stocks, due to the high interest that surrounds them. A single piece of negative news can send the market price spiralling. While value stocks might not see the same rapid ascent that growth stocks do, they can still suffer from collapses when negative news hits the company.

Whether you’re looking at growth stocks or value stocks, it’s important to understand that market prices can rise and fall.

Some companies, like tech giants Google and Microsoft, are often seen as fitting into both ‘value’ and ‘growth’ categories. Stocks can be both undervalued compared to existing earnings, and still have high growth potential.

Over the last decade, value stocks have underperformed growth stocks as low interest rates and cheap financing helped growth companies expand rapidly. Meanwhile, the rise of retail investors helped fuel a ‘growth-at-any-cost’ approach. But we are seeing value stocks start to make a come back thanks to high inflation rates taking their toll on growth stocks.

 

How to trade value stocks with City Index

You can speculate on value stocks with City Index in just four easy steps:

  1. Open a City Index account, or log in if you’re already a customer
  2. Search for the company you want to trade in our award-winning platform
  3. Choose your position and size, and your stop and limit levels
  4. Place the trade

Or you can try out trading value stocks risk free by signing up for our demo trading account.

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