10 Cheap Stocks To Buy Using Different Valuation Metrics 4

Everybody loves to spot a bargain and investors scouring stocks are no different. But what many new investors fails to understand is that there is a difference between shares which are ‘cheap’ and those which offer genuine value.

To help in identifying undervalued stocks, there are a number of ratios to look at. In this article, we will see which shares are cheap based on P/E ratios, PEG ratios and Price to Book ratios

1. Price to Earnings Ratio (P/E)

P/E Ratio = current share price / earnings per share
If Company A currently has a share price of 100p and is forecast to generate earnings
per share of 20p in 2017 it is on a prospective PE of 5. (100 / 20 = 5)

The P/E ratio is arguably the most used by investors when researching stocks. It is a relative measure which can be used to compare individual stocks against their peer group, a sector or the wider market. The P/E compares the market value of a company with its profit.

When looking at the P/E ratio a figure above 20 is generally considered to be a
premium rating while shares trading at 10 or below are considered to be cheap.

It is important to understand that if a P/E ratio shows a particular stocks as being cheap, it usually means that there is something wrong with the company. It could mean that the company has too much debt, or is pursuing a wrong strategy or is becoming technologically obsolete. Companies are usually cheap due to investors having no or low faith in a companies prospects.

Below is a list of 10 stocks that are cheap when compared to their average PE over the last 10
years. The premise of this is that if a share is trading on a lower than average PE due to a short-term poor performance, then it could rise sharply to return its previous rating when things get back on track.

Company            Discount of Current Forward P/E To 10 Year Average

  • Mitchells & Butlers                      70.7%
  • Capita                                          52.7%
  • Petrofac                                       51.1%
  • Shire                                            46.3%
  • Kenmare Resources                    40.6%
  • Next Fifteen Communications    39.3%
  • Centamin                                    37.8%
  • Berkeley Group                           37.7%
  • Bovis Homes                               37.6%
  • Anglo American                           37.5%

2. Price to Earnings Growth Ratio (PEG)

PEG = prospective PE ratio / forecast earnings per share growth

The PEG ratio takes the P/E ratio once step further by factoring in the growth prospects of a firm. So if company A has a P/E of 30 and is growing at 100% a year whilst B has a P/E of 15 but is only going at 2% a year, company A offers far better value than company B.

When looking at the PEG ratio figure, a number between 0 and 1 means a stock is
cheap relative to its growth prospects and anything above 2 means it is looking fully valued.

Have a look below for 10 cheap stocks as found by the PEG ratio

Company                                   Forward PEG

  • Rolls-Royce                                   0.3
  • Cairn Homes                                 0.3
  • Highland Gold Mining                   0.3
  • Helical                                           0.3
  • Imagination Technologies             0.3
  • FBD Holdings                               0.3
  • Royal Bank of Scotland                0.4
  • Tesco                                            0.4
  • RSA Insurance                             0.4
  • Balfour Beatty                              0.4

3. Net Asset Value Method (NAV)

PNAV = share price / NAV per share
NAV (net asset value) = (Total Assets – Total Liabilities) / Shares Outstanding

If Company A’s share price is 100p and it has 100 million shares outstanding. Its net asset value (NAV) is £60 million which equates to NAV per share of 60p. Therefore its price to NAV ratio is 1.67. ( 100 / 60 = 1.67)

For companies that are asset intensive, it is better to value them based on the assets they have as opposed to the awnings they generate.

The P/NAV ratio helps compares the share price to the ‘per share’ value of its assets. This shows the cost of a stock relative to the value of the company if its assets were broken up and sold. This metric is often used to compare stocks in the real estate space or other companies with significant financial assets.

Below are 10 cheap companies by P/NAV

Company                                           Price to NAV

  • Barclays                                                0.6
  • Royal Bank of Scotland                        0.6
  • Millennium & Copthorne Hotels            0.6
  • Drax                                                      0.6
  • Cairn Energy                                         0.6
  • Standard Chartered                              0.7
  • Land Securities                                     0.7
  • British Land                                          0.7
  • Intu Properties                                      0.7
  • Debenhams                                          0.7

When it comes to investing valuation matters. If you overpay for a a great company, your returns will be substandard. Conversely, if you pay a cheap enough price for an average company you can still end up with a great return. So that next time you are thinking about purchasing a stock, have a look at the various valuation matrices to check whether you are getting a genuine bargain

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  • http://www.smartpolak.co.uk/ Paweł Kłosiński

    Thank you for very informative post. I am new to investing such articles with basic, easy to understand information are great help. I need to choose a platform for ISA now, I want to buy both shares and funds and focus generating income. I am thinking of an iweb but there are many other. What platform do you use and can recommend? Thanks in advance.

    • http://moneygrower.co.uk moneygroweruk

      Hi Pawel. Great to hear that you find my site informative.

      I don’t give advice but I will give you my opinion. I actually wrote about the best platforms here http://moneygrower.co.uk/2015/09/how-to-buy-stocks-in-the-uk-review-of-the-best-investing-platforms-for-new-and-experienced-investors/

      In short, if you want ease of use – Hargreaves Lansdown is the best but it is also slightly costly
      If you want something cheaper than Hargreaves, Youinvest and TD Direct Investing are the next best. TD Direct Investing has a higher dealing fee but if you have more than £5,100 in your portfolio than there is no custody charge. With Youinvest the custody charge is 0.25% of your portfolio. (maximum £7.50 per quarter).

      I have looked at Iweb before and although it is cheap, it has some really bad user reviews. The platform is slow and people have trouble executing trades. I guess you get what you pay for.

      I hope this helps.

      • https://www.smartpolak.co.uk/ Paweł Kłosiński

        Yes, thank you, in the end I opened an account with Youinvest, I think that £30 is bearable. By the way, I tried to buy first shares using regular investing. Is it only limited to LSE shares? I wanted to buy something else but did not see this option :/

        • http://moneygrower.co.uk moneygroweruk

          Hi Pawel,

          The regular investment service with Youinvest is only available for FTSE100 and FTSE 250 shares. I guess other companies listed in London – the smaller ones – don’t have much market liquidity and if you used the regular investment service for these smaller stocks you will probably overpay. So perhaps Youinvest limiting it to FTSE 100 and FTSE 250 stocks is a good thing.