When I’m looking for the best shares to buy now, I usually screen for them with positive criteria. What I mean by this is that I look for the good points in the companies I’m considering. For example, a firm that has grown profits year after year at a good pace would mean a tick on my checklist. On the other hand, I do also need to look for negative red flags. And here are some of the important ones that I keep an eye out for.
Extreme ratios
A good metric that can be used to find the best undervalued shares to buy now is the price-to-earnings ratio. This measures the proportion of earnings relative to the current share price. In theory, if the ratio is lower than average then it could suggest the share price is undervalued.
A red flag here is if the P/E ratio is very low. In this case, it might not suggest an undervalued share worth snapping up. Rather, it could reflect a struggling business that I need to avoid.
For example, it might be low because investors are expecting profit to tank in the next report. With the pandemic still negatively impacting companies, this is something I need to watch out for.
Another red flag is a too-good-to-be-true dividend yield. This yield is a good metric to look at the income I’d receive from dividends. Yet I need to be careful in just using this number without any other checks.
A company could have a very attractive dividend yield and the reason for this might be sustainable. But it might not. For example, a falling share price would artificially boost the dividend yield. In the future, the dividend might be cut if the falling share price is due to a financially unstable business. So it actually wouldn’t be the best share to buy now.
A top share, but potentially high volatility
Something I need to look out for is the volatility of the best shares to buy now. A stock might be moving higher, with a lot of interest from investors. But if the volatility is very high, it could ring alarm bells for me. This is because the potential drawdowns in the share price could be high. On a day to day basis, I could see wild swings that might put me off.
Volatility can be my friend at times. But before I choose to buy the share I’m considering, I need to make sure I’m happy with taking on the emotional rollercoaster of a volatile stock.
With all the three red flags I’ve mentioned, it’s important to note that they’re my opinion. There will be some shares with a low P/E ratio or a high dividend yield that I’ll stay away from. Another investor might be happy with the risks, and it could work out in their favour. Even with volatility, some investors see this as a green flag, not a red one!
