A sharp downtrend was witnessed in the U.S. stock market yesterday, with the Dow Jones Industrial Average tumbling 768.11 points, or 1.63%, to 46,225.15. The S&P 500 declined 91.39 points, or 1.36%, to 6,624.70, while the Nasdaq Composite slid 327.11 points, or 1.46%, to 22,152.42. The broad-based weakness reflected a risk-off tone as investors digested a combination of monetary policy signals and escalating geopolitical tensions.
At its latest meeting, the Federal Reserve kept the benchmark interest rate unchanged at 3.5%-3.75% for a second consecutive time and continued to signal only one rate cut this year. This dampened market sentiment, as expectations for a more accommodative policy path were pared back.
Fed Chair Jerome Powell also warned that higher oil prices could raise inflation while simultaneously weighing on economic activity. The ongoing conflict involving the United States and Israel against Iran has already pushed energy prices above $100 per barrel. With markets confronting the dual risks of persistent inflation and slowing economic momentum, equities witnessed a broad-based sell-off.
Against this backdrop, value stocks present an appealing opportunity. When evaluating value stocks, one of the most effective valuation metrics is the Price to Cash Flow (P/CF) ratio. This metric measures the market price of a stock relative to the cash flow the company generates on a per-share basis. A lower P/CF ratio indicates that the stock is trading at a better value, offering strong cash generation potential relative to its price. Here are four companies — Strategic Education, Inc. STRA, Mistras Group, Inc. MG, Signet Jewelers Limited SIG and NatWest Group plc NWG — that boast a low P/CF ratio.
Price to Cash Flow Reveals Financial Health
Questions may arise as to why we are considering the P/CF valuation metric when the most widely used metric is Price/Earnings (or P/E). Well, what makes P/CF stand out is that operating cash flow adds back non-cash charges such as depreciation and amortization to net income, reflecting a company's financial health.
Analysts caution that a company’s earnings are subject to accounting estimates and management manipulation. However, cash flow is reliable. It is net cash flow that reveals how much money a company is actually generating and how effectively management is putting the same to use.
A positive cash flow indicates an increase in the company’s liquid assets. This gives the company the means to settle debt, shell out for its expenses, reinvest in its business, endure downturns and finally pay back its shareholders. Then again, a negative cash flow implies a decline in the company’s liquidity, which lowers its flexibility to support these moves.
What’s the Best Value Investing Strategy?
An investment decision solely based on the P/CF metric may not fetch the desired results. To identify stocks that are trading at a discount, you should expand your search criteria and also consider the price-to-book ratio, price-to-earnings ratio and price-to-sales ratio. Adding a favorable Zacks Rank and a Value Score of A or B to your search criteria should lead to even better results as these eliminate the chance of falling into a value trap.
Here are the parameters for selecting true-value stocks:
P/CF less than or equal to X-Industry Median.
Price greater than or equal to 5: The stocks must all be trading at a minimum of $5 or higher.
Average 20-Day Volume greater than 100,000: A substantial trading volume ensures that the stock is easily tradable.
P/E using (F1) less than or equal to X-Industry Median: This parameter shortlists stocks that are trading at a discount or are equal to their peers.
P/B less than or equal to X-Industry Median: A lower P/B compared with the industry average implies that there is enough room for the stock to gain.
P/S less than or equal to X-Industry Median: The P/S ratio determines how a stock price compares to the company’s sales — the lower the ratio, the more attractive the stock is.
PEG less than 1: The ratio is used to determine a stock's value by taking the company's earnings growth into account. The PEG ratio portrays a more complete picture than the P/E ratio. A value of less than 1 indicates that the stock is undervalued and that investors need to pay less for a stock that has robust earnings growth prospects.
Zacks Rank less than or equal to 2: Zacks Rank #1 (Strong Buy) or 2 (Buy) stocks are known to outperform irrespective of the market environment.
Value Score of less than or equal to B: Our research shows that stocks with a Style Score of A or B, when combined with a Zacks Rank #1 or 2, offer the best upside potential.
Here are four of the 16 value stocks that qualified the screening:
Strategic Education, which provides education services, sports a Zacks Rank #1. The company has a trailing four-quarter earnings surprise of 19.9%, on average. You can see the complete list of today’s Zacks #1 Rank stocks here.
The Zacks Consensus Estimate for Strategic Education’s current financial-year sales and EPS indicates growth of 4.1% and 12.8%, respectively, from the year-ago period. STRA has a Value Score of B. Shares of STRA have fallen 2% in the past year.
Mistras Group, a global leader in technology-enabled industrial asset integrity and laboratory testing solutions, sports a Zacks Rank #1. The company has a trailing four-quarter earnings surprise of 1.9%, on average.
The Zacks Consensus Estimate for Mistras Group’s current financial-year sales and EPS calls for growth of 2.5% and 19.3%, respectively, from the year-ago period. MG has a Value Score of A. Shares of MG have rallied 41% in the past year.
Signet, a diamond jewelry retailer, carries a Zacks Rank #2. The company has a trailing four-quarter earnings surprise of 86.8%, on average.
The Zacks Consensus Estimate for Signet’s current financial-year sales and EPS suggests growth of 1.7% and 4.3%, respectively, from the year-ago period. SIG has a Value Score of B. Shares of SIG have gained 39.9% in the past year.
NatWest Group, the provider of personal and commercial banking and other financial solutions, carries a Zacks Rank #2. The company has a trailing four-quarter earnings surprise of 17.9%, on average.
The Zacks Consensus Estimate for NatWest Group’s current financial-year sales and EPS implies growth of 7.4% and 8.9%, respectively, from the year-ago period. NWG has a Value Score of B. Shares of NWG have jumped 26.3% in the past year.
You can get the rest of the stocks on this list by signing up now for your 2-week free trial to the Research Wizard and start using this screen in your own trading. Further, you can also create your own strategies and backtest them first before taking the investment plunge.
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Strategic Education Inc. (STRA): Free Stock Analysis Report
Signet Jewelers Limited (SIG): Free Stock Analysis Report
Mistras Group Inc (MG): Free Stock Analysis Report
NatWest Group plc (NWG): Free Stock Analysis Report
This article originally published on Zacks Investment Research (zacks.com).