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This article will define the term “value stock”, explain how to identify them, and offer a few examples.
What Are Value Stocks?
Let’s start by defining what value stocks are. It is a stock that is priced lower than it should be based on the company’s fundamentals.
Obviously, a value stock represents a shining example of how to make billions of dollars!
You just have to buy those and watch the values rise, right? Not so fast.
Value stocks are great if you know what to look for, but that’s why Warren Buffett is worth $101 billion as of this writing, and most other people aren’t – it’s not easy to locate a value stock.
To actually find a value stock, you’ll need to dust off the fundamental analysis textbook and dig into things like earnings, cash flow, P/E ratios, etc., to figure out whether you’ve actually found a company that has the potential to storm back to profitability.
We’ll get more into identifying value stocks in a later section.
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Understanding Value Stocks
There are really two types of stocks: value and growth stocks.
It’s important to remember that once a stock is considered a value stock, it may not always stay that way.
A growth stock is typically priced at several multiples above where its fundamentals suggest it should be.
It should also be understood that, just because a company was doing quite well, and then suddenly the stock falls, this does not mean that the company is immediately a value stock.
Sometimes a stock deserves to trade below its valuation and won’t ever recover.
Take Blockbuster, for example. It traded down throughout Netflix’s disruption of it, never to rebound to previous levels.
How many investors saw “value” in Blockbuster during these times?
Identifying value stocks is not as easy as looking for low P/E ratios. So, let’s dig into some methods for finding value stocks.
How to Find Value Stocks
Finding value stocks requires research. And as you know, researching stocks is no easy task.
It requires a firm grasp of the company you’d like to buy, and the peer companies involved in the same marketplace.
For instance, here are a few characteristics to look for in your search:
- High dividend yield – Dividends are paid out to shareholders by the company on a set schedule.
- Low price-to-book (P/B) ratio – This is a comparison of the company’s market value based on its share price and the book value based on its balance sheet
- Low price-to-earnings (P/E) ratio – This compares the company’s market value based on share price to its earnings per share.
- The stock price compared to peer companies – If there is a company trading well below the price of other companies in a similar marketplace, it might be a value stock.
- Low price-to-sales (P/S) ratio – This will help compare a company’s revenue to others in the same market
- Debt-to-Equity ratio – This shows how much debt the company is carrying and helps investors decide if they are too burdened by debt.
Let’s use an example to explain this.
If you consider oil and gas companies such as ExxonMobil, Chevron, and Occidental Petroleum, it’s actually not terribly difficult to find out which one might be viewed as a value stock.
If you use the P/S ratio to compare the three, Exxon has a P/S of 1.35, Chevron’s is 2.04, and Oxy’s is 1.49. Ok, they’re all about the same.
Looking at the P/B ratio, Oxy’s is the highest. Oxy also carries the most debt, so you can take Oxy off the list.
Between the two remaining, Chevron pays the highest dividend. Ideally, this would make Chevron a good buy at the moment.
Sure, it has the highest stock price, but you’re looking for companies that have the potential to grow and hold value, not necessarily the lowest-priced stocks.
Pros of Value Stocks
- High potential return for a portfolio of accurately placed stock purchases.
- Cash flow on shares in the form of dividends
- Voting rights in a growth phase
- “It’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price.” Warren Buffett
Cons of Value Stocks
- It’s entirely possible to buy a company at a “value” level when it turns out the company is just a poor performer.
- Possibility of having to hold a stock for far longer than anticipated to return to purchase price.
- Possibility of buying a company that could go bankrupt due to market changes
- Generally, these established companies won’t rise to the same levels as the current growth stock kings.
Examples of Value Stocks
In the years following Steve Jobs’ tragic death, Apple experienced a bit of a pullback. The mind that had built Apple had gone, leaving others to figure out the company’s path.
However, Warren Buffett saw that there was value in the company.
In 2016, Warren Buffett made perhaps one of the most profitable trades in the history of Berkshire Hathaway by buying 10 million shares of Apple at about $86 per share.
That position made $100 billion.
Other examples of value stocks include Bank of America (BAC) and Ford (F).
>> More:Best Blue-Chip Stocks
Value Stocks FAQs
What are some examples of value stocks?
Apple is a famous example of a value stock, as we discussed above.
At various times, airline stocks can be good purchases, especially after the 2020 crash. Once the dust settled, United Airlines, the largest airline company globally, presented an incredible value stock position.
Oil and gas might be one of the most well-positioned value sectors at the moment due to the uncertainty of the world’s reliance on oil for energy.
Remember that, while we’re trying to move away from oil, the core revenue generation method for oil and gas companies, they are still some of the largest companies in the world and will weather whatever storm they have to be innovating.
Value stocks vs. Growth Stocks: How Are They Different?
Value stocks are generally priced below what their fundamentals say they could be priced. It usually only takes a catalyst of some kind to realize that.
On the other hand, growth stocks are already priced either at or above where the market says they should be.
Despite this, growth stocks tend to rise because they continually innovate and improve their revenue-generating capabilities.
>> More:Growth vs. Value Investing
Why do people buy value stocks?
Buying value stocks is a great way to find dividend-paying companies that can increase in value, giving investors two ways to make money.
Some tend to be less volatile, but others may see more volatility if they are reliant on fewer sources of revenue.
Is Apple considered a value stock?
Warren Buffet purchased billions worth of Apple in 2016 — so that says something. Apple is value amongst the high-growth, Big Tech stocks.
Bottom Line: What Are Value Stocks?
Value stocks can be hard to find, but those who are diligent and informed on what to look for could be in a good place to find the next hidden gem.
Only by being involved in the markets can you start to see the changes.
While it’s difficult, there are still opportunities to get invested. If you look at companies with long histories, you’ll see that they continue to see increasing stock prices.
After 2020, many companies were priced at significant discounts, but there was so much fear that it may have driven you away.
Never fear. Just remember, the next time you see big changes in the market, there will always be opportunities to find the next value stocks.
This article is for informational purposes only. It is not intended to be investment advice.