Investors should buy these stocks using the Warren Buffett criteria

Dr James Fox explains why investors should be looking at these UK-listed value stocks as he channels the teachings of Warren Buffett.

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All investors want to emulate Warren Buffett’s success. The 92-year-old has amassed a fortune worth over $100bn.

But why is Buffett so successful? Well, the legendary investor uses a value investing strategy. This  involves picking stocks that appear to be trading for less than their intrinsic or book value.

So, let’s take a closer look at value investing and what I think are Warren Buffett-style stocks in the UK.

Value Investing

Value investing strategies have consistently outperformed major indexes over the last century. So, it’s definitely worth it.

Buffett is the CEO and Chairman of Berkshire Hathaway — an American multinational conglomerate holding company headquartered in Omaha.

Each share of Berkshire ‘A’ was worth around $750 in December 1982. Today, an investor would have to hand over a staggering $461,000 for one.

Berkshire Hathaway had to bring in ‘B’ shares in 1996 to make access to the company more affordable.

So, how does value investing work?

Investing in undervalued stocks is an integral part of the value investing strategy. It’s all about finding value where other investors aren’t necessarily seeing it. So, it requires plenty of research.

I can look at simple, near-term metrics like the price-to-earnings (P/E) ratio, or enterprise value-to-EBITDA. But there are the more complex metrics, such as the discounted cash flow (DCF) model. This can be challenging as it requires us to make predictions about future earnings.

These metrics give us an idea as to whether a stock is discounted or not. Buffett is known to look for a margin of safety around 30%, or even higher. 

Value picks

Buffett isn’t a big UK stocks investor — in fact, he only owns shares in Diageo, which actually trades at higher earnings multiples than the index average. He prefers to stick to what he knows, which could explain the dominance of US-listed stocks in his portfolio.

However, I think these two stocks meet Buffett’s criteria for investing. Let’s take a closer look.

Airtel Africa is a telecoms and mobile finance company focused on the African market. It trades with a P/E ratio around 8.5 and the DCF model suggests a fair value of 500p — that’s way above the current 123p.

Developing-world investments do carry more risk, but with less than half of adults in Africa having a bank account, there’s clearly a huge and growing market for banking and payment solutions. The 14 nations in which it operates are also among the fastest-growing worldwide — this is a catalyst for growth.

I also contend that investors should be piling into UK banks. Buffett likes to invest in quality, and there’s no shortage of blue-chip British banks trading at discounts.

I like several UK banks, but Lloyds is my top choice. Higher interest rates have pushed bank earnings upwards, albeit with higher impairment charges. However, DCF models suggest the stock is undervalued by as much as 55% and there could be more positive catalysts ahead.

Lloyds makes all of its sales in the UK. And one aspect that has been hit by Brexit is commercial loans. Hopefully, if a new Brexit deal on Northern Ireland is agree, it could unlock billions in investment and business activity.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

James Fox has positions in Lloyds Banking Group Plc. The Motley Fool UK has recommended Airtel Africa Plc, Diageo Plc, and Lloyds Banking Group Plc. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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