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Finding cheap UK shares to buy after the stock market crash may become an increasingly difficult task. After all, the new bull market has produced improving performances from shares across the FTSE 100 and FTSE 250 over recent months. As such, many undervalued stocks are now trading at higher prices.
Despite this, searching for cheap stocks in unpopular sectors, comparing their valuations to sector peers and determining their quality, could make it easier to build a portfolio of worthwhile investments. They could deliver market outperformance in a stock market recovery.
The stock market crash has led to extremely weak investor sentiment towards a number of sectors. Within them, it may be possible to find cheap UK shares that trade on lower valuations than the wider market.
For example, industries likely to be impacted greatly by a weak economic outlook could face more difficult operating conditions in the short run. Sectors such as media, travel & leisure, consumer goods and financial services may, therefore, contain companies that have relatively low valuations.
Certainly, they’re likely to report disappointing results in the short run, as the economic impact of the pandemic becomes clearer. But this could already be factored into their share prices, thereby providing significant capital appreciation potential.
Relative valuations after the stock market crash
It’s difficult to ascertain whether some cheap UK shares are attractive at the present time. After all, profitability and asset values have generally fallen since the start of the year. As such, comparing a company’s price-to-earnings (P/E) ratio or price-to-book (P/B) ratio with historic levels may only provide a limited guide as to whether it’s an attractive investment opportunity.
Therefore, it may be more relevant to compare a company’s valuation with those of its sector peers. The stock market crash may have created pricing discrepancies within some industries. They may provide an opportunity for capital appreciation over the long run. Certainly as a new bull market lifts investor sentiment towards a wider range of businesses.
Diversifying ahead of a stock market recovery
The recent gains made by many FTSE 100 and FTSE 250 stocks may mean it’s tempting to have a narrow focus when purchasing cheap UK shares. However, a concentrated portfolio is likely to lack the benefits of diversification. This could mean higher risks. It may also lack exposure to the wide range of growth opportunities currently available across the stock market.
Furthermore, many cheap stocks may face difficult operating environments in the short run. In this sense, they may be relatively high-risk investments. Therefore, diversifying across a number of companies that operate in different sectors and geographies may prove to be a logical means of benefitting from a likely stock market recovery after the 2020 market crash.
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.