The GuruFocus site gathers together a wide variety of information and calculations that investors can use to help determine whether or not investing in a specific stock is the right choice for them.
The GuruFocus Value chart compares a company’s current stock price to its GF Value Line in chart format. The GF Value Line is an intrinsic value estimate developed by GuruFocus that is calculated based on the following three factors:
- Historical multiples (price-earnings ratio, price-sales ratio, price-book ratio and price-to-free cash flow) that the stock has traded at.
- A GuruFocus adjustment factor based on the company’s past returns and growth.
- Future estimates of business performance from Morningstar analysts.
About GF Value
The GF Value chart takes inspiration from Peter Lynch, who managed the Fidelity Magellan Fund during the 1980s. Lynch developed a "quick way" to determine whether a stock is overvalued or undervalued by comparing its price line to a line representing what it would trade at if the price-earnings ratio was 15.
Building off of the idea of having a quick-reference chart to get an overall estimate of whether a stock is overvalued or undervalued, the GF Value combines the historical multiples, the company’s past returns and analyst estimates of future business performance. The combination of these factors produces the GF Value line, to which the stock’s price line can be compared.
The GF Value chart consists of the following components:
- The light blue line is the stock’s price line.
- The solid black line represents the GF Value line, while the dotted black line gives the stock's estimated future GF Value line.
- Above the black line, there is a red section representing the overvalued zone. If the price is in the red zone, it means the stock is overvalued. The darker the red, the more overvalued the stock is.
- Below the black line, there is a green section representing the undervalued zone. If the price is in the green zone, it means the stock is undervalued. The darker the green, the more undervalued the stock is.
Below is the GF Value chart for Intel Corp (INTC). As you can see, Intel’s current share price is still within the colorless area that is less than 10% beneath the GF Value line, so the stock is rated as “fairly valued.”
The possible valuation ratings on the GF Value chart are “significantly overvalued,” “modestly overvalued,” “fairly valued,” “modestly undervalued,” “significantly undervalued” and “possible value trap.”
Uses and pitfalls
The GF Value chart can be useful in getting a quick idea of how overvalued or undervalued a stock is. It also has the added benefit of estimating the future GF Value based on analyst estimates of what the company’s earnings will be over the next couple of years. Growth investors might feel confident buying stocks that are trading at a discount based on their future GF Value rather than their current GF Value, while value investors may be more comfortable sticking to stocks that are fairly valued or undervalued based on their current GF Value.
A company’s GF Value chart can be found on its stock summary page:
GuruFocus users can also use the GF Value as a screening criteria in the All-in-One screener. There are two ways to do this. The first is by going to the “fundamental” tab and selecting the GF Valuation as a screening criteria (i.e., modestly undervalued, fairly valued, etc.).
The second way is to use the price-to-GF-Value ratio, which can be found under the screener’s “valuation ratio” tab. If this ratio is less than 1.0, the stock will be considered in the undervalued to fairly valued range. However, if the price-to-GF-Value ratio is too low, it could indicate a potential value trap.
So what is a potential value trap? Stocks that are labeled as such by the GF Value chart are those that may look like a good value on paper, but which have significant issues that could lead to permanent financial impairment or business decline. Most stocks these days that look undervalued are undervalued for a reason; the majority of investors are steering clear of them because the upside potential is not worth the struggling business and risk of insolvency. There is still a chance that these companies could improve their conditions and provide stellar returns on the future, but the risk is high and careful study of the company’s financials and business outlook is needed.
There are some exceptional cases in which the GF Value isn’t useful for estimating the intrinsic value of a stock. Investors should be aware of these situations so as to avoid paying attention to the GF Value when it is not useful.
One of these exceptional cases is the stocks of entities that derive the majority of their revenue from investment portfolios. U.S. accounting regulations now require unrealized investment portfolio gains and losses to be counted as part of a company’s top and bottom lines. This causes constant fluctuations in the revenue and net income of these companies, which translates to the GF Value chart. Below is the GF Value chart for Apollo Global Management (APO), which operates in the asset management industry. The sharp fluctuations from the value of this company’s investments mean that the GF Value chart, along with many other valuation metrics, are useless in terms of evaluating its potential.
Investors should also take caution when assessing the GF Value of companies that only report their earnings twice a year. Unlike companies that report on a quarterly basis, those that report twice a year will frequently have the problem of their most recently reported data being too old to be useful. This applies to all of the company’s data and valuation metrics, not just the GF Value chart. Those companies that report twice a year will have the following warning in their GF Value chart: “data out of date, use caution.”
