How to Find Value Stocks

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By Lija Rasa
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Invest in value stocks and profit.

Value investors like Warren Buffet look to buy stocks that are priced way below what they should be worth based on fundamentals. Why do these prices get so low? Well, markets are not always rational - when panic sets in, even sound companies get hammered.

When trying to find value stocks, however, the challenge is to actually recognize the value. Here are some tips to help you do your own value stock research.

Difficulty: Moderate

Instructions

Step 1

Use your favorite stock screener to find stocks using criteria described below. If you haven't used a stock screener before, check the resource section below for an article on researching stocks with Google stock screener.
Step 2

Search for stocks that recently had a significant drop in price. In Google stock screener, for instance, you could search for 52wk price change percentage say between -50% and -25%. If you are looking for an absolute bottom, you can change -50% to -1000% or so just to make sure you catch all the stocks that had been reduced to dust. In tough economy this search will return lots of hits. When examining a particular stock from this list also take a look at it's 5 year price chart, and see how long this stock has been in a downtrend. You may want to overlay Dow Jones and Nasdaq charts to see if the downtrend in this stock had preceded the overall market downturn. If that's the case, you might want to stay away, because the company probably has bigger issues than just tough economy.
Step 3

To narrow down the list from previous step, consider adding the following criteria:

Market Cap - bigger is usually better - consider a cap of at least 500 million (or 2 billion if you would rather stick to large cap stocks);

Price to Book Ratio - the lower the better - 2 or below is considered good for value stocks;

Return on Equity (ROE) average for the last 5 years - if the company has history of profitability, chances are it will return there. Look for 10% or more when considering value stocks;

Debt to Equity Current Ratio (CR) - if the company is drowning in debt, then there is hardly any value in it - look for CR of 1 or higher.
Step 4

Click to enlarge.

Examine the stock list or if you get too many hits, tighten the criteria even further. As of this writing the search as shown has returned a list of 95 stocks with market cap larger than 2 billion.
Step 5

When considering whether to buy a particular stock from your value list, also compare it to others in the same industry. In particular, check how the Price to Book Ratios and Debt to Equity Current Ratios compare - you want better value than the industry average.
Step 6

Never rely on stock screener exclusively - sometimes a stock that seems like a good value is trash after all. Check for news items about the company - there could be lawsuits, scandals, even a bankruptcy looming. Be cautious, buy only true value stocks and it will pay off.