What is a Value Stock?
Key Takeaways
● Value stocks refer to stocks whose share prices are undervalued relative to their fundamentals.
● Value stocks generally have a low P/E ratio, a low P/B ratio, and a high dividend yield.
● The risk of investing in a value stock is that its value may never materialize.
Understanding
Unlike a growth stock, a value stock is usually trading at a lower price than what its intrinsic value should have indicated. Characteristics of a value stock include a low P/E ratio, a low P/B ratio, and a high dividend yield.
A value stock might not be able to offer a return comparable to a growth stock, especially in the short term. But its share price may appreciate over time.
How to Identify a Value Stock
Generally, there are three metrics to look for.
First, the P/E ratio. Price to Earnings (P/E) ratio is a measure of a stock’s market value per share, divided by its earnings per share. If the stock has a lower P/E, it is considered a value stock, and a growth stock if the opposite is true.
Second, the P/B ratio. The P/B ratio is a company's share price relative to its book value. Similarly, if the stock has a lower P/B, it is considered a value stock, and a growth stock if the opposite is true.
Third, the dividend yield. The dividend yield is a company's dividend per share divided by its share price. If the stock's dividend yield is higher than the average, it is taken as a value stock. If the result is lower, the company is a growth stock.
Conclusion
Though a value stock has the potential to deliver stable returns, the market may still hold a skeptical attitude toward it. Most investors tend to favor growth stocks, though they are generally overvalued.
It may take some time for a value stock to change the general market perception. But the thing is, many investors may not have that much patience.