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One of the first mistakes novice investors make is ignoring quality stocks. Why? Because they are inherently the type of stock that seems unattractive. Why is it so cheap? What’s going on? Why are investors not buying?
These are all very valid questions.
In some cases, something is wrong. Not all cheap stocks are profitable – that’s what separates them from value stocks.
So what is value share? Great question.
A value stock is any stock that is trading below what is considered its intrinsic value. That is important because intrinsic value is not always easy to measure. Identifying such stocks can be a very powerful investment skill.
Unlike growth stocks, value stocks are generally evaluated from a long-term perspective. Think five to ten years, rather than one to two.
It may be easy to spot an obvious growth stock. The company kills it, everyone loves the product, and the stock price goes up. Easy money? It is possible. But it can only go higher and the higher it is, the lower the potential returns.
A £2 stock can no doubt be doubled or tripled with a little effort, especially if we trade on that front. But a £600 stock trade at peak time? Can it go higher and if so, in terms of price? More importantly, how low can it go?
Of course, this all depends on the company. A product or service in high demand can easily get £600 worth of stock over £1,000. Conversely, a weak business in a dying industry can send a £2 stock hurtling towards obscurity.
With all that in mind, here are two value stocks that not only have strong funds but also very low prices. I now own both stocks as part of a portfolio that I contribute regularly.
Diageo
As one of the largest alcoholic beverage distributors in the world, Diageo (LSE: DGE) is a company with huge potential. Boasting best selling products such as Smirnoff again Guinnesswell placed for long term growth.
But at £25 a pop, it’s not exactly cheap. However, that’s 37% lower than the all-time high of over £40. With strong competitive advantage and steady cash flow, analysts estimate it is trading below its fair value.
The drop in prices has been attributed to economic instability in Latin America which has led to reduced sales of rum. But that’s not all. Alcohol consumption worldwide is declining. Diageo must find new ways to attract the younger generation who drink less – or face further losses.
JD Sports
Earlier this week, Bank of America restored its buy rating of JD Sports (LSE: JD) with a target price of 165p. That’s almost 70% higher than its current price of 97p.
With revenue forecast to grow 34.7% annually and cash flow estimates 52% below fair value, that target seems realistic. The stock is down 58% from an all-time high of 232p on 12 November 2021.
However, certain factors can interfere with its recovery. Sports fashion is competitive and punters are fickle. Financial constraints can lead consumers to choose less expensive alternatives. Inflation led to losses in 2022 and 2023 and may recur.
But with a forward price-to-earnings (P/E) ratio of 9.1, it looks undervalued. Given its strong brand and market dominance, I’m with Bank of America on this one.
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