If you are aiming to become a good value investor, first you should know what value investing is.
Value investing basically refers to the type of investment in which stocks are bought for a value which is less than its usual value. Value investors invest in stocks which are undervalued at the time.
Those investors believe that even a single bad news decreases the price of a stock, but do not affect the ability of a company to make profits in the long term. So, when the stock price is lower they tend to buy it and when the prices gets back to normal they sell it and make a good profit. However, this does not mean that if the price is down it will increase after sometime. Value investing is not about cheap stocks but about undervalued stock, which later can be sold once there is stability in the market.
So, if you want to be a good value investor you should keep in mind some factors which will help you before making an investing decision. The difference between a value investor and a good value investor is that good investors never miss out any opportunities thrown their way. There is no way to exactly analyze a stock. Some of the metrics mentioned here should be present in an income portfolio-
Price to earnings ratio
Price to earnings ratio which is commonly known as P/E ratio is calculated by dividing the share price of a stock with the earnings per share, and represents the amount which investors are interested to invest for each dollar earned by the company.
P/E ratio is used to compare one company to another. A stock with lower P/E ratio is cost effective compared to a company with higher P/E ratio. This ratio is a useful but it cannot help much when comparing stocks in different business sectors.
Price to book ratio
Price to book ratio is also known as P/B ratio is calculated by dividing the stock’s share price with the net assets minus intangible assets such as goodwill. Deducting intangibles before computing ratio is the one of the important elements of the ratio because when we deduct intangibles we are able to calculate the payment for tangible assets made by investors. Everything has some limitations and so does the P/B ratio. For companies having high intangibles assets, the P/B ratio will be high and misleading. So, one should check all the financial statements of a company before taking any decision.
Debt to equity ratio
Debt to equity ratio should be 1:1 or lower. If the ratio increases more than this, the debt is more than the equity which is not attractive to investors. When you see that a company is facing hard times and debt to equity ratio is increasing, it is time to pull out your money from this stock and reduce your chances of incurring losses. One should check out the future plans of a company and if the debt is taken care of with proper planning then you may keep the investment, but make sure that the company is capable to do what it is planning.
PEG ratio is also known as profits/earnings to growth ratio. If you are a good value investor you can find which company is undervalued as companies with good growth rates often do not have a good market standing and this is the reason they are undervalued. So, you can invest in them now and when they grow, you can sell the stock at high percentage of capital gains. This is the type of stocks that will yield higher returns in the future.
We have mentioned the fundamentals which must be checked before investing in any company and declaring any stock as undervalued. You can become a good value investor only if you use your knowledge in practice and use it for your benefit. If you are able to judge undervalued stocks then you are going to be a great value investor one day.