Recently Christopher Wood, chief global head of equity strategy at brokerage Jefferies said," The market leadership is moving towards value stocks from growth stocks amid looming interest rate hikes by the US Federal Reserve."
What are Value Stocks?
Stocks that are transacted at a reduced rate than their inherent value are known as value stocks. They are inexpensive equities with the potential to expand and provide significant profits in the long run. As a result, they are substantially less expensive than equivalent equities in the market.
Investing in value stocks can be explained as choosing equities that are cheap but have the potential to create income when the market price fixes. You may acquire a thing at a bargain and sell it for a greater price if you know it's true value. To generate enormous returns, the investor finds the best value stock, buys it at a discount, and keeps it until it reaches its true worth.
Why is it important to know the value of a stock?
The stock's share price should be equal to its intrinsic worth in an ideal circumstance. The price of a stock will be about equal to its worth in the long term, but this is not the case in the short run for a variety of reasons. Value investors believe that the market will ultimately detect and fix the undervaluation. This is why experienced investors engage in value investing by focusing on technically sound stocks that are now running at a cheap price.
As a result, finding the intrinsic value is the key criterion for deciding whether a stock is inexpensive to acquire or pricey to sell. The "buy cheap, sell high" investing approach will be hard to implement without this visual reference.
How to calculate the value of a stock?
The following measures can be used to identify a value stock by measuring the intrinsic values of the stocks of a company.
Price- Sales Ratio: The price-to-sales ratio is computed by dividing the market valuation by the total revenue and profits of the firm. Market valuation is calculated by multiplying the total number of outstanding shares by the market share price per share. A low P/S ratio suggests that the company is inexpensive and is a smart investment.
Price- Book Ratio: The price-to-book ratio is derived by dividing the stock price by the book value per share of the firm. The entire assets minus any liabilities is referred to as book value. Low P/B ratios might indicate undervalued equities and can be helpful in locating a value investment.
Price- Earning Ratio: The price to earnings ratio is calculated by dividing the company's stock price by its earnings per share. The P/E ratio is used to evaluate the relationship between a stock's market price and its actual earnings as reported in the books. Low P/E ratios suggest that equities are cheap and, as a result, have a potential of increasing in value in the future.
Value stocks, despite their potential upside, are deemed riskier than growth stocks because of the market's uncertainty towards them. Hence, a value stock is more likely to have a greater long-term return than a growth stock due to the underlying risk.