Investors who buy stocks that are considered to be undervalued could be getting a great value for their money. When a stock goes below a price that financial experts consider to be fair, it could start a rally that causes the stock to increase in value quickly. For those who may already own a stock that is considered to be cheap, it may be a good idea to buy even more shares in that company.
See Capital and Dividend Growth
In addition to seeing capital appreciation over a relatively short period of time, it may be possible to see higher than usual dividend growth as well. What this does is adds to the stock’s returns in a given year. For example, a stock that has a dividend yield of 4 percent is the equivalent of a 4 percent return per year on that stock even if the stock price stays flat. If the stock also grows by 9 percent in a year, that security would have increased in value by 13 percent in a single year.
Get in Before the Trend Begins
A stock that is considered to be undervalued could be in line for long-term growth. This means that you could get the stock for less than it is worth and then hold it for several months or years before others even notice that it is a stock worth buying. Once the bulls start to realize that the stock will hold its value over the long haul, it could have already appreciated 10 percent or more. After it becomes a hot stock, investors could see returns of as much as 100 percent or more in a single quarter.
Compound Your Returns By Getting in Early
One of the best reasons to buy cheap stocks is that you have a longer period of time in which to compound your returns. Each time that you receive a dividend, you have the option of reinvesting that dividend back into the company. This increases your holding and the amount of your account. Much like compound interest, compounding dividends can make an investor thousands or tens of thousands of dollars over a 10-year period. Parents who are looking to save for their child’s education may want to pick a company that is trading below a fair value and hold it until their child is ready to go to college. Those who hold stocks in a retirement or other tax-deferred account will not have to pay taxes on capital gains, which further increases the value of their holdings.
Undervalued Stocks May be Great for Options or Day Traders
Those who don’t like to buy-and-hold for the long-term may want to buy undervalued stocks because they are almost certain to be prone to speculation. This can drive their price up in the short-term even if they don’t necessarily become winners over the long-term. For instance, if a stock is perceived to be relatively inexpensive, those who are looking for larger returns in a flat market may wish to buy shares to improve their returns. Day traders can simply trade the daily or weekly upticks in the stock’s price without being exposed to a risky equity for too long.
If a stock is undervalued, it has more room to grow in the future. Therefore, investors should be interested in them because they offer a higher upside and the opportunity to see that upside in a relatively short period of time. Depending on what a company has done in the past, it is possible that a stock’s current downtrend is just an aberration for a company that has historically been successful in maximizing shareholder value.
