When evaluating stocks, value investors are typically attracted to UK shares that appear cheap compared to earnings. Naturally, it makes sense to grab something when it’s selling at a bargain.
The price-to-earnings (P/E) ratio reveals what it costs to buy shares compared to what each share earns the company. It’s considered a quick way to gauge whether a company is performing better than it share price suggests.
The right reasons
There are different reasons why a company may have a low P/E ratio so it’s important to assess the reason. Imagine a company’s making good earnings but behind the scenes, it’s headed for disaster. If shareholders are aware of the underlying issue, it could prompt them to sell.
But there are times when great companies with solid earnings still appear cheap. Recently, investors have been increasingly drawn to the US market, driving capital away from the UK. And falling interest rates have shifted attention to other asset classes.
Rather than lose hope, savvy investors see the long-term value in such an opportunity. Those who have been in the game long enough know that the situation can change quickly. Any major shift in global economic policy could bring capital flooding back into the local market, sending prices soaring.
How to identify value stocks
Figuring out which shares might recover in such a situation can be highly lucrative. As mentioned, a low P/E ratio can indicate good value but not necessarily long-term potential.
But when a well-established company with solid financials appears cheap for no reason, that’s a good sign. And right now, the UK market’s brimming with such opportunities.
Stocks to consider
Look at International Consolidated Airlines Group, the company that owns and operates British Airways along with several other EU airlines. For a year before November 2024, it was trading at less than five times earnings – a surprisingly low ratio for such a large firm.
Investors who recognised the value and bought the shares early benefited from the 80% price rise in the past six months. NatWest Group was also trading with a P/E ratio below five for the last quarter of 2023. The price has since recovered over 90%.
Currently, I see another major FTSE 100 stock that’s been trading below a P/E of five: insurance giant Beazley Group (LSE: BEZ).
Despite the stock climbing 61% in the past year, it still has a low P/E ratio. With earnings more than doubling between 2022 and 2023, the ratio’s levelled out. That’s a strong sign that there’s more room for price growth.
The risk is that it’s heavily exposed to growing costs from climate-related disasters. Last year, it wrote off expenses of $175m due to claims from hurricanes Helene and Milton. Another major disaster could leave it sitting with hefty bills to cover.
Analysts seem unfazed, forecasting revenue upwards of £5bn by 2026, along with a 30% earnings increase. The average 12-month price estimate of 973p is around 18.6% higher than today’s price.
Right now, I don’t have spare capital to put into the stock. But I think it’s worth considering for value investors seeking out discounted UK shares.
This post was originally published on Motley Fool
