We're all taught that the key to active investing is 'buy low, sell high'. But this is easier said than done. So how does one truly spot an ASX share price bargain?
Well, to start out, let's clarify one thing. An ASX share can only be a bargain if it's a good quality share trading at a discount to its true value. If an ASX share is a poor company, then it arguably doesn't really have a share price that represents good value.
Sure, you can try the old Benjamin Graham-pioneered 'cigar butt' investing style of finding dud companies that might be worth a little more than their current share price. But that's a game that few investors (this writer included) are qualified to play.
So if we're talking companies that aren't profitable and have no path to profitability, or else are perhaps profitable but exist in a sunset industry, then I wouldn't bother trying to find a share price that's worth paying.
But let's get on to the good stuff. How does one spot a share price bargain?
Well, I like to look at a few metrics.
How to value an ASX share price and find a bargain
P/E Ratio
The first is the price-to-earnings (P/E) ratio. The P/E ratio of an ASX share is most useful when comparing different companies in the same sector. Take the popular ASX 200 bank shares. The big four banks all operate in the same industry and compete for the same customer base. Thus, the P/E ratio is a great metric to start with here.
Right now (at the time of writing), the Commonwealth Bank of Australia (ASX: CBA) leads the banks with its present P/E ratio of 17.54. Westpac Banking Corp (ASX: WBC) is on 14.93, while National Australia Bank Ltd (ASX: NAB) sits at 14.25. ANZ Group Holdings Ltd (ASX: ANZ) is the laggard here, with a P/E ratio of just 10.62.
From this, we can tell that CBA is the most expensively-priced ASX 200 bank share out of the big four. This is understandable, as CBA is often the bank that most investors regard as having the highest-quality business. But it also shows that ANZ could be worth a deeper dive.
Sure, this bank has had a few problems over the past year or two, such as its issues with digital mortgages. But it still remains a significant player in the banking sector, and its current share price could well be in bargain territory. Thus, using this metric alone, we've already found an ASX 200 share that is worthy of further research based on its cheap share price.
Dividend yield
The second is dividend yield. An ASX share's dividend yield is an interesting metric as well. A share's dividend yield is directly correlated with its price. The higher a share price goes, the lower its dividend yield gets (and vice-versa). This is certainly not an infallible way to value a share price. Many dividend yields are high for a reason and can prove to be dividend traps.
But take shares like Washington H. Soul Pattinson and Co Ltd (ASX: SOL). Soul Patts is a share that I regard as being unrivalled in terms of its quality on the ASX. It has increased its annual dividend every single year since 2000. Not to mention delivering stellar shareholder returns along the way.
Because of this quality, I can tell if Soul Patts shares are in the bargain bin just from the company's dividend yield. Right now, it's sitting at around 2.5% – not quite in my hot zone. But if it got to 4%, or even 3 or 3.5%, I would be buying hand over fist.
The ASX share price itself
The third metric I like to look at in determining whether an ASX share is in the bargain zone is the share price itself. Some of the ASX's best shares tend to go up in a pretty straight line over time. Just take a look at my beloved Soul Patts once more:
I never look at share prices alone when determining whether a share is cheap or not. But it can give you a better idea of how a company is valued when used in conjunction with other methods, such as those listed above.
Certain periods, such as March 2019 or October 2021, saw the Soul Patts share price run away a bit. Those periods were clearly 'stay away' moments in hindsight. But other times, perhaps May 2020 or June 2022, were obvious buying opportunities.
So don't discount this simple method of valuing a company. It should never be used alone but, together with other metrics, it can work well with finding some of the ASX's best shares
