How to identify undervalued stocks?
Using the correlation between the stock price and the underlying sentiment data enables portfolio managers to identify undervalued stocks. The logic behind this mechanism is fairly simple. If a stock is not responding to negative trending sentiment, it indicates an oversold stock. In most cases, the sentiment and stock price correlate but from a value investor's viewpoint, the oversold stocks provide an opportunity.
Just before Christmas (16-12-2021) we did a case study on how to identify oversold stocks. Using this approach, we identified Lufthansa, RWE, and Intel. All these stocks had been hit by negative sentiment throughout an extensive period but through the last months of the year, the correlation between stock price and sentiment had been negative. See below link:
These three stocks have since performed fairly solid. Lufthansa stock price has increased in the period from 16-12-2021 and up to today with approximately 33%, Intel around 2%, and RWE with a 10% increase. All of the major stock indices have decreased in the same period.
A great example on how to use our sentiment to identify oversold stocks. It provides the portfolio managers with a tool to create true value-oriented portfolios by buying into oversold stocks and selling out of positively correlated trending stocks.
Using the same logic, the approach can also be used for identifying overbought stocks and as such used for short positioning.