Forget Bargains, Play 5 Stocks with Rising P/E Instead
Forget undervalued stocks, there is room for upside even in stocks with rising P/E.
Stocks with low P/E are always investors’ favorites as the ratio indicates undervaluation. This ratio is obtained by dividing a stock’s current market price by its historical or estimated earnings. It measures how much an investor needs to shell out per dollar of earnings.
So, the golden rule is — the lower the P/E of a stock, the higher its value for its investors. This is because value investors believe that a stock's current market price is not reflective of its historical/future earnings and therefore chances of outperformance are higher.
Naturally, there are very few investors who pay attention to stocks with an increasing P/E. But this often-overlooked trend can prove worthwhile in finding great stocks. Let’s dig a little deeper.
How Can Rising P/E Be Helpful?
Investors should note that stock prices move in tandem with earnings performance. If earnings come in stronger, the price of a stock soars. Solid quarterly earnings and guidance, in turn, boost the earnings forecast, leading to stronger demand for the stock and an uptrend in its price.
So, if the price is rising steadily, it means that investors are assured of the stock’s fundamental strength, expect some strong positives out of it as well as solid and faster earnings growth. Moreover, studies have revealed that stocks have seen their P/E ratios jump over 100% from their breakout point in the cycle. So, if you can pick stocks early in their breakout cycle, you can end up seeing considerable gains.
The Winning Strategy
In order to shortlist stocks that are exhibiting an increasing P/E, we chose the following as our primary screening parameters.
EPS growth estimate for the current year is greater than or equal to last year’s actual growth.
Percentage change in last-year EPS should be greater than or equal to the previous year.
(These two criteria point to flat earnings or a growth trend over the years)
Percentage change in price over four weeks greater than the percentage change in price over 12 weeks.
Percentage change in price over 12 weeks greater than percentage change in price over 24 weeks.
(These two criteria show that the price of the stock is increasing consistently over the said timeframes)
Percentage price change for four weeks relative to the S&P 500 greater than the percentage price change for 12 weeks relative to the S&P 500.
Percentage price change for 12 weeks relative to the S&P 500 greater than the percentage price change for 24 weeks relative to the S&P 500.
(Here, the case for consistent price gains gets even stronger as it displays percentage price changes relative to the S&P 500)
Percentage price change for 12 weeks is 20% higher than or equal to the percentage price change for 24 weeks, but it should not exceed 100%.
(A 20% increase in the price of a stock from the breakout point gives cues of an impending uptrend. But a jump of over 100% indicates that there is limited scope for further upside and that the stock might be due for a reversal)
In addition, we place a few other criteria that lead us to some likely outperformers.
Zacks Rank less than or equal to 2: Only companies with a Strong Buy or Buy rating can get through.
Average 20-day Volume greater than or equal to 50,000: High trading volume implies that the stocks have adequate liquidity.
Just these few criteria narrowed down the universe from over 7,700 stocks to just 55.
Here are five out of the 55 stocks:
SunOpta Inc. STKL: The Zacks Rank #2 (Buy) company is an operator of high-growth ethical businesses, focusing on integrated business models in the natural and organic food, supplements, and health and beauty markets.
Citi Trends Inc. CTRN: The Zacks Rank #1 (Strong Buy) company is a leading value-priced retailer of urban fashion apparel and accessories including nationally recognized brands, private-label products and a limited assortment of home décor items. You can see the complete list of today’s Zacks #1 Rank stocks here.
Organogenesis Holdings Inc. ORGO: This Zacks Rank #2 company is a leading regenerative medicine company focused on the development, manufacture and commercialization of solutions for the Advanced Wound Care and Surgical & Sports Medicine markets.
Tapestry Inc. TPR: The Zacks Rank #1 company is the designer and marketer of fine accessories and gifts for women and men in the United States and internationally.
Venus Concept Inc. VERO: The Zacks Rank #2 comapny designs and develops medical aesthetic equipment.
The Research Wizard is a great place to begin. It's easy to use. Everything is in plain language. And it's very intuitive. Start your Research Wizard trial today. And the next time you read an economic report, open up the Research Wizard, plug your finds in, and see what gems come out.
Disclosure: Officers, directors and/or employees of Zacks Investment Research may own or have sold short securities and/or hold long and/or short positions in options that are mentioned in this material. An affiliated investment advisory firm may own or have sold short securities and/or hold long and/or short positions in options that are mentioned in this material.
Disclosure: Performance information for Zacks’ portfolios and strategies are available at: http://www.zacks.com/performance
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