How To Find Undervalued Stocks or Shares

The fundamental way to invest in stock market is to look for stocks which are undervalued and of high potential. There are some financial ratios you can used to calculate the potential value of the stock (intrinsic value) and to justify the investment as overvalued or undervalued.

Following are great investment tips to identify the best undervalued share:

(1) Find the Price/Earnings To Growth (PEG) Ratio of a Share - This ratio is used to determine a stock's value while taking into consideration the earnings per share generated and the firm's expected growth. It is calculated by diving P/E ratio with the company's expected growth rate. If the ratio is 1 or less, then the stock is undervalued and it is considered a good buy. For instance, PPC Industries Ltd has a P/E of 12 and the financial analysts expect its earnings will grow 20% annually, then the Price/Earnings To Growth ratio = 12 / 20 = 0.6 (This indicates that the share is undervalued and has a good buying prospects).

(2) Find the Price to Earnings (P/E) Ratio of a Share - This is one of the most common methods used to help us determine whether a company is over- or under-valued. The ratio is calculated by dividing market price per share with the earnings per share. For instance, if the shares of Company ABC are trading at $16 and the earnings for the year are $6.40, then the P/E ratio would be: 16 / 6.4 = 2.5 (This means that the price of the shares is 2.5 times the earnings of that shares). A trader should compare a company's P/E with its competitor or the industry average. Generally, a low P/E ratio would indicate a stock is under-valued.

(3) Find the Earnings Yield of a Share - This is calculated by dividing earnings per share (EPS) with the stock market price. Generally, the higher the earnings yield, the more undervalued the stock.

(4) Find the Price-to-Book ratio (P/B) - Also known as the “price-equity ratio”, this is calculated by dividing a stock's market price per share by its book value per share. A lower price to book ratio could mean that the stock is undervalued and represents a buying opportunity.

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