This blog post is third in a series of posts called – “All You Need To Know About Different Investing Strategies“.
As a matter of fact, patience is probably the most important factor in determining just how successful anyone will be as a value investor, since this strategy is all about waiting out short-term market fluctuations in order to benefit from long-term returns.
If he is already a bargain shopper, an independent thinker, a diligent researcher and a patient person, he probably has what it takes to become a successful value investor. Value investors commonly do their own research and fundamental analysis, relying on financial statements and metrics such as profit margins, price-to-earnings ratios and book value to pick individual stocks to invest in.
Should You Invest in Value Stocks?
Investors need not be concerned about the day-to-day fluctuations in stock prices, as value investing focuses on fundamentals and not extraneous factors that cause
these fluctuations.
Value investing also takes advantage of the power of
compounding, as reinvestment of returns and dividends will grow investor’s investments appreciably.
Since value investment has a longer-term horizon, they
get to pay a lower tax rate on their investment income. Although liquidity is often a concern with value buys, given their depressed valuation.
How to Invest in Value Stocks?
Unlike some investment strategies, value investing is simple. It doesn’t require an extensive background in finance. Nor will anyone need to sign up for an expensive subscription service or understand how to analyze squiggly lines on charts. If he has common sense, patience, money to invest and the willingness to do some reading and accounting, he can become a value investor.
Buying stocks at bargain prices gives him a better chance at earning a profit later when he sells them. It also makes him less likely to lose money if the stock doesn’t perform as he hopes. This principle, called the margin of safety, is one of the keys to successful value investing.
A key feature of this investment technique is related to the fact that investors should not place too much regard to external factors related to the company such as market volatility, daily prices fluctuations or systematic risks related to significant catalyst in the short-term horizons. It doesn’t provide instant gratification. Anybody can’t expect to buy a stock on Tuesday and sell it on Thursday. In fact, he may have to wait years before his stock investments pay off.
Successful investors like Graham and Buffett have made the best of their value bets by holding onto stocks they buy for many, many years. Hence, value investing is best suited for long-term investors.
Mediums of Value Investing
Value investing can be accomplished by various means or mediums, of course the easiest of them is via common stocks. Further in the blog we will discuss the options you have and nuances of each.
Classic Compounding Stocks
These
are stocks that not only have a durable competitive advantage to
their peers, but also a large presence and strong brand in the market
which cements their staying power. Crucially, these companies also
have strong pricing power that enables them to increase prices year
after year, thus compounding returns for shareholders.
Cyclical Stocks
A
cyclical stock is a type of equity security whose price is affected
by macroeconomic, systematic changes in the overall economy. Cyclical stocks
are known for following the cycles of an economy through expansion, peak,
recession, and recovery. Cyclical stocks typically refer to companies that sell
discretionary items consumers can afford to buy more of in a booming economy.
Cigar Butt
In
these stocks, the performance of the business is may be terrible or nearly
useless and burnt, just like the real cigar butt, but investor can buy its
stock at low price.
Anti-Fragility
It is
a concept developed by scholar and former trader Nassim Nicholas Taleb.
Something that is anti-fragile is not only capable of withstanding shocks, but
it will actually thrive when exposed to volatility and stressors.
Investors invest in companies that have some trouble in their past and have
come back from it.
How to Identify Value Stocks?
EPS
EPS is a company’s net earnings divided by the number of shares
outstanding.
P/E Ratio
The
price-to-earnings or P/E ratio is a company’s stock price divided by current
earnings per share.
The lower the P/E, the cheaper the stock. Value investors often use a
stock’s P/E to determine if a company is under- or overvalued, or whether the
stock is a good buy at the current price.
Where can you find the Dependent Variables?
You can usually find everything you need (periodic EPS figures) by going to the company’s website and clicking on Financial Statements.
Price to Earnings Ratio!
$$P/E = { \left(Current Stock Price \over EPS \right) }$$
Famous Investors Associated with Value Investing
Known as “the father of value investing” and the
“dean of Wall Street,” Graham (1894-1976) excelled at making money on
the stock market for himself and his clients – without taking big
risks. Graham created and taught many principles of investing safely and
successfully that modern investors continue to use today. His popular book
is “Security Analysis” co-written
with David Dodd.
Warren Buffett is generally credited as the most successful investor of
all time. He is generally recognised as the most successful, and highly
respected, investor in the world. His company, Berkshire Hathaway, has provided
excellent returns for its shareholders over many decades. Buffett advises that
investors take a slightly different approach and invest in companies whose
mission they believe in. He says “Price is what you pay. Value is what you
get.”
A prominent investor in Winnipeg, David Dreman studied at the University
of Manitoba, graduating in 1958. Upon graduation, He worked as director of
research for Rauscher Pierce Refsnes Securities Corp., and then continued his
career as senior investment officer with J&W Seligman, and later as senior
editor of the Value Line Investment Service. His name is synonymous with the term
“contrarian investing” and
his contrarian strategies have been proven winners year after year.
He is one of Wall Street’s most successful figures. Carl Icahn,
best known for the “Icahn Lift” which describes the quick upward trajectory in
a company’s stock price when Icahn begins to invest in the company, has made a
name for himself in the often-turbulent world of activist investing.
Final Thoughts
Investors looking to gain exposure to a wide range of different value companies may want to consider investing in value stocks. Well diversified Portfolios can help spread risk because whether the value of their investment goes down or up isn’t dependent on the performance of a single company.
With a series of blogs on various investing styles, we have tried to make the reader comfortable with the idea of systematic investing and inculcate a tendency to follow a process in this fruitful journey.
Whether you’re new to investing or already have a plan in place, you can rely on TradeGyani for trusted advice on building your financial future.
