What Stocks To Buy, Undervalued Stocks?

What stocks to buy for profitable investing? Investor should try to buy fundamentally strong stocks which are undervalued. Undervalued stocks can fetch higher returns in long term. Not only returns, these stocks makes investment portfolio very robust. When it comes to investing people get confused about what stocks to buy. The best advice said, "buy good undervalued stocks".

Since then I have kept my investment understanding as simple as those 4 words. No matter how complicated is the decisions, one must keep buying undervalued stocks and selling overvalued ones. The easiest time to find undervalued stocks is in falling market. But how to know if the market is falling or rising?

Tracking stock market index will give this answer. India has two main index, Sensex & Nifty. In United States people refer NASDAQ & DOW for such indications. Observing index is good, but it is not sufficient to see index movements alone. To get a more meaningful idea, look at the index’s PE & PB ratios. SENSEX PE & PB ratio can be found by visiting BSE India Website. It is interesting to observe index in terms of its PE, PB & Dividend Yield. As a rule of thumb, stocks having PE<15 & PB<1.5 are undervalued.

But it is equally important to look at fundamentals of stocks. No matter how undervalued are stocks, but it their fundamentals are weak, it will result in loss. Lots of stocks trade at low PE & PB levels. But majority of them has weak fundamentals. :Buy good undervalued stocks". Lets see what we can track in Index:

As on April'2015

	Sensex Levels	P/E	P/B	Dividend Yield
SENSEX	28,504	18.63	3.09	1.22

As a rule of thumb, investors can use information of SENSEX to buy/sell stocks:

1. Buy stocks which has lower P/E Ratio than SENSEX
2. Sell stocks which has higher P/E Ratio than SENSEX
3. Buy stocks which has also has lower P/B Ratio than SENSEX
4. Sell stocks which has higher P/B Ratio than SENSEX
5. Buy Stocks which has Dividend Yield (Last 3Years Average) more than that of SENSEX

Sensex Vs. Individual Stocks

Price Earning (P/E) Ratio of Index represents average valuations of stocks listed in stock exchange. Presently P/E ratio of SENSEX is 19.71. Applying a rule of thumb, P/E above 15 hints at overvaluation. In last 12 months, Sensex has risen by more than 8,000 points. This is the reason why P/E of Sensex is trading at 19.71 levels. When Sensex is rising it means its P/E ratio is also increasing. It implies that stocks are getting overvalued. In this uptrend of Index there are some good stocks that gets left-behind. Our intention is track thosefundamentally strong stocks which are undervalued. Let’s take an example of Tata Steel to see how we can compare stocks with Sensex:
The Values are Just for Example Only

	Mar’15	Mar’14	Mar’13	Mar’12	Mar'11
Sensex	28,800	22,500	18,800	17,500	19,500
Market Price	2640	2150	1500	1170	1180
Reported EPS	109	94.17	65.23	55.97	38.62
P/E Ratio	24.22	22.8	22.9	20.9	30
Div/ Share	32	22	25	14	20
Div. Yield	1.20%	1.02%	1.66%	1.19%	1.69%

This type of comparison of SENSEX with individual stocks gives insights about the market. In last 12 months Sensex has really rocketed to all time high levels. First effect of soaring Sensex is seen in companies EPS & PE ratio. Improving PE ratio also gets reflected in Dividend/share. Idea is to check if company is also doing well when sensex is rising. Most important to see, in improving/depreciating index, how PE ratio is behaving. Thumb rule says, a stocks with PE ratio of less than 14 is a good buy.

P/E Ratio of Undervalued Stocks

Investors must learn to take advantage of Market fluctuations. PE ratio gives us a broad idea about market whether it is overvalued or undervalued. Let us see how effectively we can use PE ratio to buy stocks. In years 1920, 1950, 2001 & 2008, stock market across the world saw its worst crisis. During these moments of turmoil the average PE ratio of stock market was at its rock bottom. Investors who bought stocks during crisis, made handsome profits. But this is only one side of the story. There were investors who bought stocks when stock market got revived. Like in year 2010, PE ratio of stocks market was at all time high levels. Buying stocks when market has already peaked is bad. This happens because the price levels at which they bought shares are already overvalued. Looking at PE ratio of Sensex will hint if market is really overvalued. Today some might say that SENSEX is trading at all time high levels of 28,500 points. But does this mean that market is very overvalued? Use our thumb rule. Present PE of sensex is 19.44 which is only 5.44 points higher than rule of PE14. Without doubt, market is overvalued but its not as overvalued as some might think. PE ratio is a very helpful indicator to know valuation of market broadly.

In countries like like India, investors must also inflation. PE ratio is effected by inflation rates. Controlled inflation is good for the economy. But erratic & high inflation is cause of worry. High inflation rates negatively effects PE ratio of Index. In a market where inflation is dominant, the market tends to be volatile. Both Sensex and stock price fluctuate rapidly.This also decreases investors sentiments. High inflation means low PE, means investors money is getting devalued. Markets where inflation is low and stable are ideal for investment. High inflation ultimately leads to slow growth of PE ratio of market. High inflation levels may cause market to stay at low PE levels. This may look good initially but when reason is high-inflation, its can never be good for market in long run. In last five years the way inflation has behaved in India is a cause of worry.

Inflation Rate, Bull Market & Overvalued Stocks

Bull market is not new for investors. We have seen such phases in after the great depression of 1927, dot com bubble in 2000 and in 2008 US debt crisis. In all of these times stocks market first got bull and then crashed. In the bull phases PE ratio rose to exorbitant levels. After the market crashed, PE ratio hit all times lows, and ultimately recovering to justifiable levels. It is a common observation that when stocks market is playing naughty, inflation plays normal. When market is bull, it is difficult to find fundamentally strong stocks which are undervalued. Generally, fundamentally strong stocks first becomes overvalued during bull runs. This happens because almost every one is buying these handful stocks. For investors the problem is how to find undervalued stocks during bull runs? In such times relying only on PE ratio is not sufficient. We shall use PEG ratio to unearth undervalued stocks.

Inflation Rate, Bear Market & Undervalued Stocks

Inflation plays a big role in bear market. Market hates high inflation and unstable market. Market like to trade when price of goods and services are stable. It helps investors to take calculated risks. But when inflation is high, people prefer to invest in risk free investment options. In such cases there will be gradual decline in the PE ratio of stocks. But low PE ratio is not always reliable. A stocks which has low PE ratio does not necessarily mean it is undervalued. A more reliable tool for investors to use is PEG ratio.

Fundamentally Strong Indian Stocks Which are Undervalued

Using the concept of PEG ratio we have tried to list down fundamentally strong Indian stocks which are undervalued. The stocks are called fundamentally strong because they have shown the following behaviors:

1. Zero Debt Company
2. High Operating Margin

After doing the fundamental analysis, price valuation was done. Market price of stocks was done on the concept of PEG ratio. The result that came out is like this:

(Updated as on January'2016)

SL	Company name	Market Price	Market Cap	Operating margin (%)	Total Debt/ Equity (%)	PEG (5Y)
1	NMDC Limited	89.5	364.91B	63.58	0	0.429
2	Hindustan Zinc Ltd	140.2	620.94B	46.13	0	0.462
3	Bajaj Holdings And Investment Ltd	1,670.00	185.86B	87.34	0	1.312
4	Gujarat Mineral Development Corporation	81.35	26.79B	40	0	0.431
5	Clariant Chemicals (India) Ltd.	776	18.30B	115.94	0.68	0.043
6	National Aluminium Company Limited	37.4	100.69B	17.77	0	0.861
7	Cairn India Limited	129.55	264.93B	14.68	0	0.272
8	Infosys Ltd	1,062.05	2.47T	25.49	0	1.296
9	Coal India Ltd	321.25	2.04T	21.27	1.01	1.991
10	HCL Technologies Ltd	825.4	1.19T	23.37	2.62	0.459
11	SJVN Ltd	32.6	139.26B	60.3	25.96	1.064
12	Oracle Financial Services Software Ltd.	3,707.20	319.16B	38.59	0	3.153
13	IST Ltd.	646.5	3.77B	65.76	0	0.310
14	Financial Technologies (India) Ltd	115.5	5.51B	81.36	16.59	0.025
15	Sandur Manganese & Iron Ores Ltd.	453	4.12B	27.66	0	4.704
16	Ambuja Cements Ltd	197.9	315.59B	31.74	0.34	5.702
17	Vardhman Holdings Limited	990	3.16B	91.28	0	0.327
18	Wallfort Financial Services Ltd	85.55	844.46M	77.94	0	0.989
19	Kaveri Seed Company Limited	375	27.03B	22.79	0.19	0.210
20	Neyveli Lignite Corporation Limited	81.55	142.55B	29.63	44.39	1.940
21	Karnataka Bank Limited	114.3	22.68B	32.8	38.76	0.389
22	Eclerx Services Ltd	1,407.80	56.53B	28.99	0	0.847
23	City Union Bank Limited	89.9	54.53B	45.3	12.75	1.036
24	NESCO Ltd.	1,705.00	24.82B	67.43	0	1.420
25	Tata Consultancy Services Limited	2,399.05	4.72T	24.06	0.82	0.971

Final Words....

Under effect of high & erratic inflation rates, finding fundamentally strong stocks which are undervalued get easy. High inflation rates forces market to down perform. As a result PE ratio will see a downward trend. When investors invests in stocks market they want at least inflation to be predictable. Market in itself is volatile. If inflation also becomes fluctuating it makes it decreases investors confidence. A stable inflation is ideal for investing, Lower inflation levels will lead to gradual PE growth. Investors must keep a close look at theinflation trends.