[ad_1]
Image source: The Motley Fool
As an investor, I can try to reinvent the wheel. Or I can look at what successful investors have done and apply those lessons to my own approach. That’s what I did this year, using inspiration from billionaire Warren Buffett as I hunted for cheap UK stocks to buy for my portfolio.
Price versus value
When Buffett is looking for cheap stocks, that doesn’t mean he’s looking to buy them with money.
The stock price itself is not cheap. What makes a stock cheap (or, really, expensive) is its price relative to the value offered.
Take BT precedent. Now I can buy about four BT shares for £5. But whether it is cheap or not depends on how I value BT. How many requests will come for the service? Can it leverage its unique assets like the Openreach division to profit? How is the value affected by liabilities such as debts or obligations still owed to retirees who used to work for the company?
Valuing a company is not easy – as this example shows, there are many variables at play. But as an investor willing to do my homework, that helps me. If the value of the company is clear and simple, I think many stocks are more efficient than their value. This is because valuation is often an art not a science as different investors can come up with their own values for a particular share. If it means I can buy a stock at a lower price than what I see as long-term value, there may be an opportunity to increase my wealth.
UK shares for sale
Now, I use that approach to find stocks to buy for my portfolio.
One example is buying Super dry stock at the end of last year. The fashion retailer has secured new credit arrangements and sales are growing. Despite this, the stock is trading at a price-to-earnings (P/E) ratio of just under 6, even after rising sharply in recent weeks.
How can you find more stocks for your portfolio that are trading at very low relative to long-term value? Just looking at valuation metrics like the P/E ratio itself can be misleading. The AP/E ratio doesn’t say anything about a company’s debt load, for example, or whether earnings are about to fall off the cliff.
Hunting for quality – and value
Instead, I hunt in areas that I feel I know and look for companies where I have a unique competitive advantage. That’s what Buffett did, focusing on the business sectors he knew best, such as insurance and transportation.
When I found the company, I then considered the value, taking into account the future prospects of the business and the debt. If it looks a little cheap, I still can’t buy it because I won’t have the mistake of being optimistic about the price. But if they look dirt cheap, I’ll consider adding them to my portfolio.
[ad_2]
Source link