Volatility has gripped the stock market lately and you can easily blame it on inflationary headwinds, supply chain issues and geopolitical tensions. The consumer price index reached 8.3% in August 2022 on an annual basis, higher than analysts’ expectations of 8.1%. With the desperate need to control inflation, the Federal Reserve could announce a sharp hike in the benchmark interest rate at the next meeting.
So as you adjust your portfolio to deal with current challenges and the continued tightening of monetary policy, market pundits are betting on value stocks.
Investing in stocks made on a diligent analysis of value is generally considered one of the best practices. In value investing, investors choose cheap but fundamentally sound stocks. There are a number of ratios to identify stocks of value, but none alone can conclusively determine their inherent potential.
Each ratio helps an investor understand a particular aspect of the company’s business. One of these ratios, Price to Cash Flow (or P/CF), can work wonders in stock picking if used with care. This measure assesses the market price of a stock relative to the amount of cash flow the company generates per share – the lower the number, the better. Unum Group (MNU – free report), Harley-Davidson, Inc. (PORK – free report), REP properties (REP – free report) and Patrick Industries, Inc. (PATK – Free report) show a low P/CF ratio.
Why the P/CF ratio?
You must be wondering why we are considering this when the most widely used valuation measure is price/earnings (or P/E). Well, one of the important factors that makes P/CF a very reliable measure is that operating cash flow adds non-cash charges such as depreciation and amortization to net profit, truly diagnosing financial health. from a company.
Analysts warn that a company’s earnings are subject to accounting estimates and management manipulation. Again, the cash flows are quite reliable. Net cash flow reveals how much cash a company generates and how efficiently management deploys it.
A positive cash flow indicates an increase in the company’s liquidity. This gives the company the means to settle its debts, meet its expenses, reinvest in the company, withstand downturns and finally take actions favorable to shareholders. A negative cash flow implies a decrease in the company’s liquidity, which, in turn, reduces its flexibility to support these efforts.
However, an investment decision based solely on the P/CF metric may not yield the desired results. To identify stocks that are trading at a discount, you should broaden your search criteria and consider price-to-book ratio, price-to-earnings ratio, and price-to-sales ratio. Added a favorable Zacks rank and a Value Rating of A or B to your search criteria should lead to even better results because these eliminate the chances of falling into a value trap.
The bargain hunting strategy
Here are the real value stock selection parameters:
P/CF less than or equal to the X-Industry median.
Price greater than or equal to 5: The stocks must all trade at a minimum of $5 or more.
Average volume over 20 days greater than 100,000: Substantial trading volume ensures that the stock is easily tradable.
P/E using (F1) less than or equal to X-Industry Median: This setting preselects stocks that are trading at a discount or equal to its peers.
P/B less than or equal to the X-Industry median: A lower P/B relative to the industry average implies that there is enough room for the stock to win.
P/S less than or equal to X-Industry Median: The P/S ratio determines how a stock’s price compares to the company’s sales – the lower the ratio, the more attractive the stock.
PEG less than 1: The ratio is used to determine the value of a stock taking into account the company’s earnings growth. The PEG ratio gives a more complete picture than the P/E ratio. A value below 1 indicates the stock is undervalued and investors should pay less for a stock that offers strong earnings growth prospects.
Zacks rank less than or equal to 2: Zacks Rank #1 (Strong Buy) or 2 (Buy) stocks are known to outperform regardless of the market environment.
Value score 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 or 2 offer the most upside potential.
Here are four of the 13 actions that qualified the screening:
Unum Group, which provides financial protection benefit solutions, sports a Zacks No. 1 ranking and has an expected EPS growth rate of 14.9% over three to five years. The company has an earnings surprise for the last four quarters of 30.1% on average. You can see the full list of today’s Zacks #1 Rank stocks here.
Zacks’ consensus estimate for Unum Group’s current-year sales and EPS suggests growth of 1.1% and 40.5%, respectively, over the prior-year period. Unum Group has a value score of A. Shares of UNM have gained 67.7% over the past year.
Harley-Davidson, which makes and sells motorcycles, carries a Zacks Rank #2. It has an expected EPS growth rate of 10.5% over three to five years. The company has a four-quarter earnings surprise of 49.5% on average.
Zacks’ consensus estimate for Harley-Davidson’s current-year sales and EPS suggests year-over-year growth of 6.9% and 8.1%, respectively former. Harley-Davidson has a value score of A. The stock has jumped 8.6% over the past year.
REP properties, a leading diversified experiential real estate investment trust in net leases, holds a Zacks No. 2 ranking. It has an expected EPS growth rate of 12.3% over three to five years. The company has an earnings surprise for the last four quarters of 8.3% on average.
Zacks’ consensus estimate for EPR’s current-year sales and EPS suggests growth of 20.1% and 49.1%, respectively, over the prior-year period. EPR Properties has a value score of B. Shares of EPR Properties are down 14.9% over the past year.
patrick industries, a leading provider of component solutions for the RV, marine, manufactured home and various industrial markets, holds a Zacks #2 ranking and has an expected EPS growth rate of 8.5% over three at five years old. Patrick Industries has a surprise on earnings for the last four quarters of 38.9% on average.
Zacks’ consensus estimate for Patrick Industries’ current year sales and EPS suggests growth of 24.5% and 37.6%, respectively, over the prior year period. Patrick Industries has a value score of A. PATK shares have fallen 39.9% over the past year.
You can get the rest of the stocks on this list by signing up for your free 2-week trial to Research Assistant now and start using this screen in your own trading. Moreover, you can also create your own strategies and test them before diving into investing.
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Disclosure: Officers, directors and/or employees of Zacks Investment Research may own or have sold securities short and/or hold long and/or short positions in the options mentioned herein. An affiliated investment adviser may hold or have shorted securities and/or hold long and/or short positions in options mentioned herein.
Disclosure: Information on the performance of Zacks portfolios and strategies is available at: https://www.zacks.com/performance.