Value stocks are the perfect haven in today’s choppy stock market. Instead of looking to high-flying tech stocks, many investors are flocking to companies with low price-to-book ratios and other undervaluation metrics.
But value traps abound in today’s market. Investors must be more discerning than blindly buying a stock when a ratio hits an arbitrary mark, or when the share price falls substantially. Instead, look past ratios and explore why the company’s metrics are what they are. In many cases, institutional investors and smart money are moving away from these value stocks and bringing share prices down with them. Don’t fall for the value trap. Before buying, determine what’s happening under the hood: Is the company selling its product as well as it used to? Can it operate at full capacity in today’s economy? Does it have a viable long-term strategy?
These are just a few questions to ask before picking a value stock. Unfortunately, these companies are waving red flags as soon as you peek below the surface. Here are three value stocks to avoid.
Realty Income (O)
Realty Income (NYSE:O), the Monthly Dividend Company, is a favorite among value investors. The REIT has a diversified, well-established commercial consumer base that ensures investors keep seeing reliable cash flow. But, cash distributions aside, the REIT faces substantial issues and limited growth prospects. REITs have fallen 30% since 2021 as interest rates and a tight economy wreak havoc on real estate. But the pain may not be over for Realty Income.
The company’s real estate portfolio and lease holding companies are particularly susceptible to inflation and interest rates. Realty Income’s own statement affirms that “rent increases may not keep up with the rate of inflation and other costs.” And serving as a warning sign for Realty Income investors, inflation ticked up last month. This month seems to be on the same trajectory. Likewise, elevated interest rates are here to sign, putting further pressure on Realty Income’s holdings.
Analysts are also concerned with Realty Income’s growth potential. One assessment noted that lacking viable prospects aligned with its current business model, Realty Income could “[be pushed] to take more risk as competition expands for its traditionally targeted assets.” Realty Income’s watchword is stability, but if it eschews stability for greater growth, the company’s bottom line could be at risk.
Imperial Brands (IMBBY)
Many see tobacco company Imperial Brands (OTCMKTS:IMBBY) as an ideal value stock at today’s price. And it is, compared to giant competitors like Altria Group (NYSE:MO). But whereas Altria and similarly large firms have a diversified portfolio and are firmly entrenched in the market, Imperial Brands boasts neither.
Cigarette smoking rates have halved in the past 20 years, with further decline on the way. And, while competitors diversify into e-cigarettes, vaping tech and even cannabis, Imperial’s unwavering commitment to cigarettes means it has limited long-term viability. Even within the cigarette segment, Imperial struggles. One analyst noted, “Brand loyalty to Imperial’s value brands is weak.” Slipping cigarette sales, a non-diversified product portfolio and limited brand loyalty are the perfect storm to make this value stock not worth of your investment.
Moderna (NASDAQ:MRNA) seems like a great value stock today, trading at less than a quarter of its 2021 high. But ultimately, the pharmaceutical stock is a value trap as declining sales and tight margins make this stock not worth buying.
Quarterly sales fell over the past five periods, with last quarter reporting a pathetic $344 million in revenue. That’s a stark difference from the same quarter in 2022 when Moderna posted $4.75 billion in sales. The slip means Moderna posted a $1.38 billion loss last quarter, down from an already-bad $79 million profit the preceding period.
While Moderna might have legs with upcoming cancer treatments and experimental flu vaccines, remember that pharmaceutical development is a costly endeavor. As sales fall, long testing lead times serve to burn more cash than the company brings in. Ultimately, this value stock’s mid-pandemic heyday is over, and investors should jump ship now if they haven’t already.
On the date of publication, Jeremy Flint held no positions (directly or indirectly) in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.