Cheap FTSE 100 shares are out there if anyone is willing to do the hard graft of finding them. And with all the weakness in the stock market right now, there are some super bargains to be had.
Now, when we do our research on cheap FTSE 100 shares, we’re looking for value.
Not just bottom-of-the-rung prices, but share prices that are cheap relative to the company’s long-term future prospects.
Value, profits, payback
One standard way of finding good value shares is to compare their P/E ratio. This takes a company’s share price and divides it by earnings per share. It’s not perfect, but it is a quick way of comparing lots of different industries all at once. The average P/E ratio across the whole FTSE 100 is 15.7.
Any number below that denotes relatively cheap FTSE 100 shares — but it is up to us to find quality too. So we need to consider profits, how likely a company is to survive another downturn, and long-term growth as well. Let’s begin.
Permission to buy
With a P/E ratio of just 9.4 Persimmon Homes (LSE:PSN) looks to be in our sweet spot for cheap FTSE 100 shares. Net cash of £828.9m is certainly a very strong balance sheet for the UK’s largest housebuilder.
What about the short-term outlook? Sentiment among construction firms in September 2020 was at its strongest since before the Covid outbreak, with business flying in at its fastest rate all year.
This is according to the IHS Markit Purchasing Managers’ Index for the sector.
Analysis of the wider market is positive too. Local lockdowns have not impacted the rate of construction, while asset manager Jeffries recently rated the sector “too cheap to ignore”.
“We see current share price weakness as presenting a great entry point for our key picks,” said Jeffries, naming Persimmon alongside Berkeley and Barratt Homes.
I’d stick with Persimmon for its profitability: the company’s return on capital employed of 22% destroys Barratt and Berkeley and is in the top five of the entire FTSE 100. High-double-digits usually means a company has a strong edge over its competitors. There’s a reason why it’s famed fund manager Terry Smith’s favourite metric.
As an investor I’m very interested in the company’s forward order book. This tells me in depth what the company’s strength is likely to be.
Half-year results for the six months to 30 June 2020 showed Persimmon’s forward orders 21% ahead of last year at £2.5bn. CEO Dave Jenkinson brought back a “modest” 40p per share interim dividend on the back of this sales strength. This only represents a 1.5% dividend yield, sure. However, the City is expecting Persimmon to reinstate its full dividend of 125p per share: a healthy 5% dividend at today’s prices.
And Persimmon has not always had such cheap FTSE 100 shares. Look back to 2016 and the company’s P/E ratio was knocking on the door of 15. So I’d say now is a good time for me to buy.
Clearly, the fact that Persimmon shares have rebounded 60% since the Covid stock market crash indicates that there is optimism in the air. Glass-half-full investors are fewer and further between these days with all the threats on the horizon.
So with five grand burning a hole in my pocket, these would be my top cheap FTSE 100 shares to buy.
TomRodgers has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. 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.