While market conditions can suit trading in and out of stocks on a short-term basis, it may be preferable to take long-term positions by looking in more detail at company fundamentals. Whenever I decide to use this strategy to find top FTSE 250 stocks with future potential, I look no further than the work of Warren Buffett – arguably the world’s most successful investor. Buffett’s central principle is investing for the long term through the power of compounding growth: the re-investment of earnings to achieve additional growth over a period of time.
A key component of this investing ideology is Earnings Per Share (EPS), which is the profit per outstanding share of the stock and is a good indication of the profitability of a company over a period of time. Buffett also takes into account the price-to-earnings (P/E) ratio, to better project future prices and therefore establish whether the stock is under- or overvalued. Let’s take a look at three top FTSE 250 stocks that may be found through this method.
Ashmore (LSE: ASHM) is an asset manager specialising in Asian investments with solid EPS data for the past years. With a compounding annual growth rate of 7.27%, this stock may not initially appear exciting. In spite of this, however, it is a consistent earner and could provide stability in a higher risk portfolio. It also has an attractive P/E ratio of 16.87, which leads to a projected share price of 464p. This means that Ashmore is significantly undervalued based on its profitability and I am pleased that I bought this stock. While it might be argued that the recent slip in share price from 380p to 295p presents an attractive buying opportunity, the unknown reasons for the slippage is concerning and I think I will be looking very closely at this issue in the near future.
Additionally, the long-term view draws my attention to Games Workshop, a stock that sells fantasy miniatures and licenses video games. As one might imagine, this industry has performed well during the Covid-19 pandemic, because more people have been at home and seeking new ways to amuse themselves. With exceptional growth in EPS, Games Workshop has managed a compounding annual growth rate of 38.98% and a P/E ratio of 23.82. This all means that the projected share price is 7,210p, but the current price is 9,970p. In essence, this means that Games Workshop is currently overvalued in my estimation, thus there may be cheaper stocks elsewhere in which to invest my money.
Finally, I am interested in Plus500 (LSE: PLUS), an online Contracts for Difference (CFD) broker. Like Games Workshop, Plus500 has benefited from lockdowns, with people taking an interest in investing with any cash saved from not travelling or dining out. Again, I would be adding this to my portfolio based partly on its compounding annual growth of 35.79%. With a P/E ratio of 392, however, I am sceptical. This may be an indication of an artificially high share price projection, because the projection is 2,508p. Currently, this stock is trading at 1,309p and is still some way off the projection. I will be keeping an eye on Plus500, though, because its fundamentals are solid – I think more time is needed to assess where this stock is going.