With all the attention that is focused on the country’s largest companies, it may stand to reason that they are likely to be accurately valued. In fact, though, the way FTSE 100 share prices move around suggests that sometimes they may be badly undervalued.
For example, consider one of the FTSE 100 shares I own. Over just the past 12 months, JD Sports (LSE: JD) has moved around in price a lot.
Its 12-month high price was 165% higher than its 12-month low. In little over a month, the FTSE 100 share has moved up 42%.
With such wild price movements for relatively stable large businesses, I think it is clear why I have been hunting for bargain shares in the blue-chip index. Here is what I look for.
Strong position in a big future market
I like companies that have an addressable market that is likely to be large in future (whether or not it is now). But such markets can be highly competitive, so I also look for companies that have some specific advantage.
The market for sporting clothes and gear is likely to remain large. A strong brand, large customer base, and global footprint all help JD Sports compete successfully.
Actually, the FTSE 100 is stuffed full of companies with competitive advantages in large markets, from AstraZeneca’s catalogue of patented medicines to Unilever’s portfolio of unique brands.
Healthy balance sheet
But a company can make large profits yet still lose money.
How can that be? In a word: debt.
Some companies have a lot of debt on their balance sheet. So even though they may be highly profitable at the operating level, they lose money overall because their operating profits do not cover the amount they spend servicing their debt.
If that sounds boring, then the stock market could be a dangerous place for you. Understanding a company’s debt position is vital in assessing whether it is potentially an attractive investment.
Indeed, one of the reasons I like JD Sports as a share is that it has historically kept debt low and often had a net cash position. Excluding lease liabilities, it ended its most recent financial year with a net cash position.
Attractive valuation
Billionaire investor Warren Buffett has often said he likes to invest in brilliant companies at attractive prices.
In other words, finding a great company is not enough. To make a great investment, it is important not to overpay.
This can be difficult to gauge. It can be easy to spot a great company – but how can we know what its valuation should be? After all, it is largely based on future performance that is currently unknown (and unknowable).
The wild swings in the JD Sports share price look irrational to me (which is why I now own more of its shares than I did at the start of the year). Yes, the company faces uncertainties, which explains why it has issued multiple profit warnings over the past year. Tariff uncertainty is an additional risk that has recently reared its head.
But the company, with a proven business model, is solidly profitable. Even after the recent rise, its valuation still looks attractive to me.
