Determining a stock's fair value (FV) is the first step in qualifying a buying opportunity for many value investors. Several methods can be used; however, at Portfolio Insight, we use two methods that produce up to five FV estimates:
Portfolio Insight's approach to FV helps you quickly answer this question for any stock. There are two components to Portfolio Insight Blended FV: a fair value price and a twelve-month target. The fair value price gives you an indication of where the current market price is relative to a stock's valuation. The twelve-month target helps you set expectations for potential upside in 12 months from today
What makes Portfolio Insight's approach to FV unique? It boils down to a combination of our deep investing domain knowledge and robust technology platform. Based on our investing experience (Portfolio Insight Team) and data analysis, we separate the stocks into three groups based on the earnings per share growth characteristics. We believe that a single approach to fair value for all stocks does not yield accurate results. The grouping strategy allows Portfolio Insight to account for the nuances of business cycles, company maturity, and other relevant factors.
Once each stock has been grouped, the Portfolio Insight platform analyzes multiple metrics, including earnings history, dividend history, and analysts’ consensus estimates. Portfolio Insight is the only platform on the market that uses actual historical earnings and dividend yields to calculate fair value prices and ranges. Since we use the historical data for each stock, we do not make assumptions about the stock's earnings growth rate or the underlying ratios (e.g., P/E ratio). Most importantly, each calculation is performed and updated daily, so you have the latest up-to-date information, not stale data that may be months old.
Portfolio Insight has developed two approaches that produce up to five FV estimates. The following section will describe two approaches and offer specific examples illustrating three FV estimates.
We use the historical relationship between each stock's price and non-GAAP earnings (P/E). Based on our research, using 20 years of data is not responsive enough to the current market conditions, particularly for faster-growing EPS companies.
Let’s examine the WST FV graph based on the last ten years to see how this works in practice.
The overvalue red price line and the undervalue green price line determine the FV range based on WST's historical earnings and prices. The blue dotted line represents the FV price line. WST is above FV since the blue current price line is above the FV range (6%) and above the FV price estimate ($334.94) circled in the chart. The FV price will be used later in this article.
Next, we'll examine the WST FV graph based on the last five years.
Although WST's current market price is above the FV price, it is still within the FV range and might suggest a buying opportunity. This FV price will also be used later in this article.
Key Takeaway: Shortening the time frame may provide an insight into a changing FV view of WST.
Portfolio Insight is the only app that has developed a FV approach based on the historical relationship between a stock’s dividend yield and price. Geraldine Weiss outlined the relationship between dividend yield and price in her book, Dividends Don’t Lie. Inspired by this book, Portfolio Insight’s fair value calculations expanded this concept several steps as described in this article on Seeking Alpha.
TROW Dividend Yield Based FV graph based on the last ten years of data.
You will notice the similarities between the PE-based FV graph and the Dividend Yield-based FV graph. The FV range is between the red overprice line and the green underprice line. However, in this case, the FV estimate is based on the historical relationship between dividend yield and stock price for TROW for the prior ten years.
You should notice that TROW is currently in the Margin of Safety since it is 7% below the Undervalue price line. TROW is 20% below the FV dotted price line as displayed in the graph and could represent a strong buying opportunity.
We feel strongly about the accuracy of the dividend yield-based FV approach because it is based on the actual dividends paid and actual stock prices. There are not any Company adjustments made to the underlying data, nor are there any assumptions made to generate this
Portfolio Insight also uses the latest five years of dividend data to calculate a 4th FV price estimate, and the relationship between the stock’s current dividend yield compared to its 5-year average dividend yield to calculate a 5th FV estimate. (Here is a link to an article that describes this approach). We have not included examples for these two additional FV price estimates in this article.
Key takeaway: Learning to use dividend yields in the FV calculation could add significantly to your research process.
Our Fair Value (FV) methods automatically produce up to five estimates, 2 P/E based and three dividend-yield based FV estimates. We decided to develop an approach that would allow us to combine the outputs into a single FV price estimate. We call our innovative solution the Portfolio Insight blended fair value approach. All the underlying data that supports this calculation can be accessed and researched by our subscribers. Our approach allows you to understand quickly if this is buying opportunity trading at FV price. This approach does not represent a substitute for additional research; however, it does allow the investor a quick and effective way to review multiple estimates before determining the next steps.
Our robust and comprehensive database, coupled with our industry-leading technology platform, allows us to develop complete solutions to complex issues (more studies will be forthcoming). In this case, we created an approach that combines multiple FV estimates into a single FV price yet allows the investor to analyze the underlying methods.
Based on a comprehensive analysis of the data, we learned that this approach involved a two-step process: (1) Growth based on EPS growth; (2) Metrics Calculations for Blended FV:
Low Growth Stocks
Low Growth Stocks
We took the FV price estimates from the first two examples and blended them consistent with the approach described in the previous section.
In the Portfolio Insight app, the WST’s blended FV price is $445.38. We solved this challenging problem of blending multiple FV estimates into a single FV price. In addition, the blended FV calculations are updated daily and presented to our subscribers.
A follow-on blog article will take a deep dive to explain our unique approach with complete transparency. Portfolio Insight has assembled a team with deep domain knowledge and built a robust technology platform that can handle complex calculations and present them in a user-friendly manner.
The Portfolio Insight Team
FerdiS at @DivGro
Prakash @Dividend Power
Jim Sr. @Portfolio Insight
Jim @Portfolio Insight