2024’s a good year to be buying FTSE 250 shares. At least, that’s what the numbers would suggest. The UK’s flagship growth index is already off to a good start, rising by almost 7% since January. And that’s not including any dividends already paid. Yet despite this upward momentum, there are still plenty of companies trading at dirt cheap prices.
The cyclically adjusted price-to-earnings (CAPE) ratio provides a bit of insight into the overall level of “cheapness” within an index. It’s quite similar to the classic price-to-earnings (P/E) ratio. However, instead of looking at a single period, it takes a 10-year viewpoint while also adjusting for inflation. The end result is a more reliable pricing metric that’s less affected by outliers.
Applying the CAPE ratio to the FTSE 250 reveals that it currently stands at around 18. What makes this interesting is the fact that the FTSE 250’s long-term average actually sits at 22.2. In other words, it indicates that the growth index could be undervalued by as much as 20%. If that’s true, then 2024 could be a terrific year to do some shopping in the stock market.
Keeping expectations in check
As stock prices tend to be mean-reverting, the current difference between today’s CAPE and the average is an encouraging signal to buy. However, there’s no definitive timeline when this gap will close. What’s more, it may even widen before this happens.
After all, a lot of the recent price momentum in the stock market’s being driven by expectations of interest rate cuts. And should inflation make an unwelcome return, the Bank of England may delay its plans to reduce the cost of capital. In this scenario, investors should likely expect a bit of downward volatility.
Even if interest rate cuts arrive on time, not every constituent may be able to relish this success. Firms with crumbling balance sheets or suffering from operational disruptions may get left behind. While this isn’t as much of a concern for passive index investors, it’s something that stock pickers need to be careful of.
A top stock to buy now?
There are a lot of interesting opportunities scattered throughout the growth index. But Greggs (LSE:GRG) has got my attention. Investing in a bakery chain doesn’t exactly scream a high-growth opportunity. Yet, the company seems to be delivering just that.
Like-for-like sales are on the march, as is the group’s network of locations with over 2,500 stores in the UK. Up to another 160 net new locations are expected to emerge later this year. And with the group’s ongoing expansion of its production and distribution facilities, this store footprint is expected to continue climbing for years to come.
As a result, the group’s double-digit average growth rate looks primed to continue over the long term. Of course, there are risks on the horizon. With a reputation for being a cheap-quality food retailer, Greggs is restricted in its ability to raise prices. And that makes food and wage inflation problematic for profit margins.
So far, the company seems to be adept at navigating such challenges. So while the risk can’t be ignored, Greggs looks like it could be a fine addition to my portfolio once I have more capital at hand.
