How to Find Undervalued Stocks with the Potential to Soar…

As the saying goes, “from the ashes a phoenix shall arise.” And the same can be said for our current market.

The Fed is going to continue to be “forceful” in its fight against inflation, and that has caused many investors to “pivot” from prior plans around a shift in Fed policy. Such a pivot has called for the Fed to begin to ease rates in the foreseeable future.

There’s no way to time the market or predict unfavorable economic events. That’s why investors should pay attention to what the Fed says – so they can put themselves in a better position to withstand imminent market volatility.

Because investor sentiment, at the moment, is more pessimistic, there’s the opportunity to buy stocks that have been burned but still have the potential to soar, which is the secret to making money.

This article will help you find more of those stocks.

There is a somewhat new phenomenon called the “V”-shaped recovery, which is basically a swift move to a lower position than one was, followed by an equally swift move back to a higher position. With an understanding of this phenomenon, people who watch every tick of nearly every stock will have an advantage over most investors because they’ll know the best time to jump back in.

This leaves most investors out in the cold unless they have the intestinal fortitude to withstand the big drops. But who among us didn’t panic even just a little during the Coronavirus correction?

Markets Come Back, Some Stocks Don't

Reeling from the effects of the pandemic, it seemed just about every stock saw some pain in market-wide sell-offs. But most have gained back the ground they lost, and then some! Glamour stocks, the ones with plenty of media coverage, are among the first to get those losses back.

The speed at which glamour stocks gain back their ground can be mind-bending. The stocks that don't get it all back at once should be the ones you focus on. The problem is that there are just too many of these stocks and some of them will never get the media spotlight cast on them.

Thankfully, there are stocks that get beaten up, pause at or near the bottom, and then begin to head back higher. These stocks generally have a commonality in the combination of upgrades and higher earnings estimate revisions.

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Gauging the Fear

Oftentimes, market-wide sell offs are predicated on macro events. Sometimes it comes when a major economy looks close to slipping into a recession (Germany). Other times it could come from a turbulent business climate and slower-than-projected economic growth (China). These macro events tend to bring sudden and severe changes to prices across all markets.

There are signals, however, that tell us when traders are expecting a big change in the direction of the markets. It is not an infallible signal, but it has given traders a heads up many times in the past. The indicator I am referring to is the VIX, a measure of the volatility in the markets.

Without going into too much detail, suffice it to say that as the VIX rises, the amount of fear in the market is rising as well. Professional traders that have the dry powder often hold their nose and dive into the mess of the markets when the VIX is reaching highs. As the index begins to return to more palatable levels, regular investors tend to follow suit.

Analysts Calling the Bottom 

While traders and daily market watchers have the VIX to follow, those who focus on a day job most of the time are left with a different barometer. One of the biggest sources of market-moving information (that doesn't come directly from the company itself) are the analyst reports that come from brokerages and specialty research firms.

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Most analysts will just ride out the volatility in their respective foxholes and keep their heads down. There are some, however, that will go out on a limb when they think the time is right; And I’m not talking about the analyst that upgrades the glamour stock. Instead, it's the stock that few have heard of that has dipped into single digits.

Those big corrections give analysts the chance to really stick their necks out and start coverage or upgrade one of those unloved stocks that has seen its price drop dramatically. These events don't happen that often, but shortly after things start to look up, the upgrades will boost these stocks back to the double digits.

The Best Part of the Upgrade  

When analysts upgrade a stock, they tend to say the story has changed and the outlook is getting better. Following a large macro-driven correction, some stocks break below the double-digit threshold, which can be just the thing that makes some analysts salivate.

It is not a surprise to most when I say that some upgrades are better than others. The total reversal from sell to buy is great, but the upgrade that carries the most weight is the one that comes along with a strong move higher in earnings estimates.

Not only is the analyst saying that the price of the stock is undervalued (thanks to the macro-driven correction), but the outlook has vastly improved, and the earnings estimates are being revised up as a result. After some homework, other analysts could see that upgrade and come to the same conclusion. The best result is a string of upgrades with an equally strong string of higher earnings estimate revisions.

While there are many market sources reporting on the daily upgrades and downgrades, few are watching the estimated revisions as closely as the Zacks Rank. And you can use the Zacks Rank in conjunction with macro selloffs to find the stocks that analysts like and foresee results improving.

Best,

Brian

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Read more from Brian Bolan at Zacks.com

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