If you are hesitant whether to invest your money in stocks or bonds, one important financial parameter that can show you the right direction is earnings yield. It is the reciprocal of the price-to-earnings (P/E) ratio. This ratio can be used for identifying undervalued stocks. Also, this ratio can be effectively utilized for comparing stocks with the market or fixed income securities.

Earnings yield can be calculated as (Annual Earnings per Share/Market Price) x 100. While comparing similar stocks, the one which gives high earnings yield should fetch higher returns.

This ratio also comes in handy while comparing the performance of the market with the 10-year Treasury yield. When the yield of the market index exceeds the 10-year Treasury yield, stocks can be viewed as undervalued in comparison to bonds. This means that investing in the stock market is a better choice for a value investor.

However, while T-bills are devoid of risks, investing in stocks always involves some inherent risks. Hence, it would be wise to add a risk premium to the Treasury yield while comparing with the earnings yield of a stock or the broader market.

The Winning Strategy

We have set Earnings Yield greater than 10% as our primary screening criterion but it alone cannot be used for picking stocks that have the potential to generate solid returns. So, we have added the following parameters to the screen:

Estimated EPS growth for the next 12 months greater than or equal to the S&P 500: This metric compares the 12-month forward EPS estimate with the 12-month actual EPS.

Average Daily Volume (20 Day) greater than or equal to 100,000: High trading volume implies that a stock has adequate liquidity.

Current Price greater than or equal to $5.

Buy-Rated Stocks: Stocks with a Zacks Rank #1 (Strong Buy) or 2 (Buy) have been known to outperform peers in any type of market environment. 

Here are four of the 22 stocks that made it through the screen:

Pittsburgh, PA-based United States Steel Corp. (X - Free Report) is a leading steel manufacturer in the United States and the fifth largest in the world. It has a Zacks Rank #2 and an expected EPS growth rate of 8% for the next 3–5 years.

Cleveland, OH-based Cleveland-Cliffs Inc. (CLF - Free Report) is the largest producer of iron ore pellets in North America. It sports a Zacks Rank #1 and has an expected EPS growth rate of 83.1% for the next 3–5 years.

Los Angeles, CA-based KB Home(KBH - Free Report) constructs and sells a variety of new homes. It has a Zacks Rank #2 and an expected EPS growth rate of 16% for the next 3–5 years.

Madrid, Spain-based Banco Bilbao Vizcaya Argentaria, S.A. (BBVA - Free Report) is engaged in a wide variety of banking, financial and related activities in Spain. It carries a Zacks Rank #2 and has an expected EPS growth rate of 15.8% for the next 3–5 years.