The price of an undervalued stock is lower than its genuine or "fair" value. For a variety of factors, including corporate recognition, negative press, and market crashes, stocks can be undervalued. The fundamental analysis argues that market prices would adjust over time to represent an asset's "fair" value, thereby resulting in a profit.
The market price of a share may not adequately reflect the company's present value for a variety of reasons. Smaller companies, for example, that aren't on the radar of analysts and investors, may have an increase in sales and profit, but this may not be reflected in their stock prices. Here are the 3 best ways to identify undervalued stocks in India.
Price to Earnings Ratio (P/E)
A P/E ratio exists in every company. The higher the P/E ratio, the higher the stock's price in relation to earnings (profit). While a low P/E ratio may signify a good time to buy, it's crucial to keep in mind that the low P/E has a cause.
Divide the price per share by the earnings per share to get a P/E ratio. The earnings per share is determined by dividing the overall profit of the company by the number of shares it has issued.
The P/E ratio is the most often used metric for determining a company's worth. In other words, it displays how much you'd have to spend to break even. A low P/E ratio may indicate that the company is undervalued.
Price/Earnings to Growth Ratio (PEG)
The price/earnings to growth (PEG) ratio establishes a link between the PE ratio and the rate of earnings growth. By examining a company's present and predicted profits growth rates, the PEG ratio determines if its stock is undervalued or overvalued.
The PEG ratio compares the P/E ratio to the yearly earnings per share growth rate in percentage terms. If a company's earnings are strong and its PEG ratio is low, it's possible that its stock is undervalued. Divide the P/E ratio by the percentage growth in annual earnings per share to get the PEG ratio.
Because the PE ratio does not represent a company's future earnings growth, many people believe the PEG ratio to be an improved version of the PE ratio. As a result, if a company's PEG ratio is low, it's likely one of India's inexpensive growth companies.
Price to Book Ratio
A company with a low market value (total market capitalization) as a percentage of book value (total shareholder equity) could be undervalued. Understanding the true value of both tangible and intangible assets (land, buildings, and cash) is crucial (goodwill, intellectual property). A corporation that makes and sells toys, for example, may also own real estate. A firm may own a lot of property that is worth a lot more than the income it makes from its main business operations. As a result, even when its financials are robust, the stock price may not reflect this. The key is to look at a company's assets and liabilities as a whole.
A company's current market value or market capitalization is compared to its book value in the price to book ratio. A firm may own a lot of property that is worth a lot more than the income it makes from its main business operations. As a result, even when its financials are robust, the stock price may not reflect this. The key is to look at a company's assets and liabilities as a whole.
Free Chas Flow and Dividend Yield
Another criterion for determining whether a business is inexpensive is its free cash flow (FCF). After deducting expenses, FCF is the cash flow generated by a company's businesses and operations.
Cash flow offers us a sense of the company's ability to support operations and capital expenditures to a certain extent. Companies frequently use cash flow to pay dividends and purchase back shares.
A company with a track record of solid financials and a high dividend yield is always an excellent investment choice. As a result, a company that maintains a consistent dividend payout despite a low stock price is considered financially solid.
Tips On Finding Undervalued Stocks
- The company's earnings history. It's a good indicator if a company is making constant improvement, even if it's gradual.
- When a corporation hasn't had any corporate governance concerns or been involved in any scams, it demonstrates its trustworthiness.
- When performing a stock analysis, it is usually a good idea to read through the business model, revenue model, and other critical key papers to look for any red flags.
- Investing in a firm with a lot of future growth potential is always a good idea.
- Investing in a firm with significant future growth potential is always a good idea. A firm with an original or distinctive product line that has the potential to alter the world is always worth investing in. For example, if you had seen Infosys' actual potential a few years ago, I am confident you would have profited handsomely.
- Other statistics to consider before investing include ROCE, ROE, and debt to equity.