Since US stock prices range from fair to high, depending on what sector you look at and who you ask, many value investors have set their sights on Europe to find attractive investments. But even though macro factors are pointing to value outperforming growth in the coming months, 81% of stock are in the top third of their 8Y PE range, the highest point since Goldman Sachs started keep track, so there may not be that many value stocks left to choose from.
Goldman expects growth, better earnings and higher yields in Europe
“Improving macro growth, an inflection in European earnings and the likelihood of rising bond yields are all likely to support Value. However, Value is becoming increasingly hard to find, given Europe’s re-rating and a narrowing in valuation dispersion,” writes Goldman Sachs analyst Matthew Garman.
Rising bond yields generally support value because the discount rate used to price growth stocks future earnings usually goes up along with them, supporting value by comparison, but all it takes is a quick look back at bond yields for the last few months to make you cautious about making short-term predictions.
Value stocks vs growth stocks
The bigger problem is that there are fewer cheap stock to be found. Value stocks as a group are only trading at a slight discount to growth stocks, and dispersion is actually below average right now. The situation isn’t as bad as the record low value dispersion the US markets saw last fall, but it is still more challenging for a value-oriented stock picker.
Multiple screens to identify value stocks
To help identify promising value stocks, Garman has updated his value screens. He is now screening for stocks that are cheap relative to their own history; high ROCE and low EV/EBITDA (Joel Greenblatt stocks); surplus cash yield; Ben Graham stocks that have adequate size, healthy financials, stable EPS and DPS, EPS growth, and reasonable valuations; a PE screen meant to identify companies that private equity might be looking at; EV/fixed assets; and dividend yield.
Energy companies account for 21% of stocks that pass one or more value screens (though the slightly opaque private equity screen seems to play a role in that). There were fifteen stocks rated Overweight by Goldman Sachs that passed multiple screens including Statoil (4 screens) and Vienna Insurance Group (3 screens).