Investors are currently agonized by the pandemic-triggered market sell offs. As the outbreak is showing no signs of slowing down any time soon, market watchers are expecting more bloodbaths ahead, pushing many fundamentally good stocks in the sell territory. Recently, former Goldman Sachs executive Gary Cohn told CNBC that more market volatility may lie ahead, following the worst day (with the Dow plunging more than 1,800 points on Jun 10) for stocks in three months.
Now the big question is which investment strategy can you resort to right now? With many fundamentally great stocks now at their historical lows on a series of production and supply halts worldwide, investors searching for a suitable investment option, may currently resort to value investment to capitalize on the long-term potential of these stocks.
However, this apparently simple-to-understand investing discipline has its own share of pitfalls. Value investors, while betting on stocks, often fall prey to companies that have weak prospects. This may often lead to “value traps” — a situation when these value picks start to underperform over the long run as the temporary problems, which once drove the share price down, turn out to be persistent.
And here comes the importance of this not-so-popular but crucial value investing metric, the price/earnings to growth (PEG) ratio.
While searching for a suitable value investment option, investors are unlikely to consider this ratio among a number of other popular value metrics like price/earnings (P/E), price/sales (P/S) or price/book value (P/B). This is because they often find this ratio complicated, considering the limitations in calculating the future earnings growth potential of a stock.
The PEG ratio is defined as (Price/ Earnings)/Earnings Growth Rate
A low PEG ratio is always better for value investors.
While P/E alone fails to identify a true value stock, PEG helps to find the intrinsic value of a stock.
There are some drawbacks to using the PEG ratio though. It does not consider the very common situation of changing growth rates such as the forecast of the first three years at a very high growth rate 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 some of 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 (Hold) offer the best upside potential.
Here are five of the 42 stocks that qualified the screening:
Helen of Troy Limited HELE: It is a leading consumer products player that operates through a diversified portfolio of renowned brands. The company has been focused on making solid investments in its “Leadership Brands,” which is a portfolio of market leading brands. Brands in this portfolio, including Braun, PUR and Vicksas well as parts of OXO and Honeywell, are positioned well to enhance market share.
The company has an impressive long-term historical growth rate of 8.9%. The stock carries a Zacks Rank #1 and has a Value Score of B. You can see the complete list of today’s Zacks #1 Rank stocks here.
eBay Inc. EBAY: It operates as an online shopping site that allows visitors to browse through available products listed for sale or auction through each company's online storefront. Apart from a discounted PEG and P/E, the stock has a Value Score of B and holds a Zacks Rank #1. The company also has an impressive long-term expected growth rate of 12.8%.
Laboratory Corporation of America Holdings LH or LabCorp: It is a leading healthcare diagnostics company, providing comprehensive clinical laboratory services and end-to-end drug development support. Apart from a discounted PEG and P/E, the stock holds a Zacks Rank #2 and has a Value Score of B.
ParkerHannifin Corporation PH: This is a global diversified manufacturer of motion & control technologies and systems. The company provides precision engineered solutions for a wide variety of mobile, industrial and aerospace markets. The company currently holds a Zacks Rank #2 and has a Value Score of A. The company also has an impressive expected five-year growth rate of 11.8%.
Bayer AG BAYRY: This is a life science company with core competencies in the areas of health care and agriculture. The company’s operations are now managed in three divisions — Pharmaceuticals, Consumer Health and Crop Science — and the Animal Health business unit. The company holds a Zacks Rank #2 and has a Value Score of A. The stock also has an impressive earnings growth rate of 7.3% for the next five years.
Get the rest of the stocks on the list and start putting this and other ideas to the test. It can all be done with the Research Wizard stock picking and backtesting software.
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 Research Wizard trial 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.
Want the latest recommendations from Zacks Investment Research? Today, you can download 7 Best Stocks for the Next 30 Days. Click to get this free report
eBay Inc. (EBAY) : Free Stock Analysis Report
Laboratory Corporation of America Holdings (LH) : Free Stock Analysis Report
ParkerHannifin Corporation (PH) : Free Stock Analysis Report
Bayer Aktiengesellschaft (BAYRY) : Free Stock Analysis Report
Helen of Troy Limited (HELE) : Free Stock Analysis Report
To read this article on Zacks.com click here.
Zacks Investment Research