Value Investing & The Investment Discipline

Indra Gajmer

Value investment is an investment technique that entails selecting securities that tend to be priced at a lower price than their intrinsic or book value. Such investors aggressively seek out securities that they believe the capital market is undervaluing. The guiding principle for their trading behavior based on the theme on- market overreacts to both positive and bad news, culminating in stock price fluctuations that are unrelated to a company’s long-term fundamentals. The overreaction provides a chance to benefit from purchasing stocks at a discount lower price.

Today’s most well-known value investor is Warren Buffett, but there are several others, including Benjamin Graham, Seth Klarman, David Dodd, Charlie Munger, and Christopher Browne. Among the top, Warren Buffett marks as the veteran tycoon in the stock and securities market – value investment is his core principle as his success yielder.

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Value investing always looks for the underpriced stocks to pick up and hold for the future right time to trade on to book the profit from. It mostly doesn’t deal for the short-time holding, rather provokes the investors to learn closely about the company and its’ future growth. For this, value investing foregrounds investors in the following criteria:

1. Intrinsic Value of the Stock

In the capital market, when the share values are undervalued, the equivalent of a stock is cheap or discounted. In such scenario, value investors expect to benefit from the shares they feel profoundly reduced.

To try to find the worth or inherent value of a share, investors use different methods. Intrinsic valuation means to analyze financial status of the company from the past to present – ­ a business-brand, business-based model, target demographic, competitive advantage, company’s financial results, sales, benefit, cash flow and profits. In order to measure the valuation of the particular company’s stock, following metrics have been used:

Book Price (P/B):  This measures the value of an asset of a company and compares it with the share price. If the value of the securities is lower than the price, the stock shall be undervalued, provided that the corporation is not in difficulty financially.

Price Earnings Ratio (P/E):  This reveals the company’s track record for earnings to determine if the stock price is not reflecting all of the earnings or undervalued.

Free cash flow: This means that the cash from the sales or activities of a business is provided after expenses have been subtracted. In other terms, cash left after spending including operational and major investments known as capital costs involves buying machinery or expanding a production facility. If a corporation produces free cash flow, it has funds to save for the future, to pay off loans, to compensate its owners or dividends and to issue stock buybacks.

There are obviously also other metrics, such as leverage, equity, revenues, and business growth measurement, used in the analyses. If the metrics have been reviewed, the investment value will opt to buy shares if the competitive valuation – the current stock price to the intrinsic value – is sufficiently appealing.

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2. Margin of Safety

Value investing is to be analyzed through pre-acknowledged risk assessment. Based on their individual risk taking capacity, they need to set a “safety margin.” The theory of the margin of safety, one of the keys to good investment in value investing, is based on the idea that buying stocks at negotiated rates gives you a higher opportunity to prosper later on. The safety margin also reduces the risk of losing money if the stock does not do as you anticipate.

In this manner, as value investors apply logic for the margin of safety, let’s have an example. You will make a profit of Rs.50 only by waiting for the stock price to increase to the true value of Rs.250 if a stock is worth Rs.250, then you buy it for Rs.200. In addition, the business will prosper and gain value, offering you an opportunity to make still more money. You will get Rs.60 when you purchase the stock on offer, if the stock price goes up to Rs.260. You would make only a profit of Rs.20 if you bought it at a full price of Rs.230. Benjamin Graham, the father of value investing, purchased only stocks if they had their intrinsic value price at or below two thirds. That was the safety margin he felt needed to make the best possible profit.

3. Markets’ Performance

Value investors do not believe in the hypothesis that stock markets already take into consideration the whole knowledge about a firm, so the price still represents its value. Valued investors instead consider that for a number of reasons stocks can be overpriced or underpriced.

For instance, a stock could be underpriced because the economy is weak and buyers panic and sell as it might have happened in the Great Recession. Or a share may be overpriced because buyers are overly enthusiastic about the latest technology which is untested. Psychological biases may increase or decrease market prices on the basis of news like unpleasant or unforeseen profits, recalls of products, or lawsuits. Stocks can also be underestimated when they operate under radars, so analysts and the media are insufficiently covered.

4. Market Whim

Value investors have many of the features of the opponents — they are not following the flock. They not only reject the hypothesis of performance, but they also sell and stand back while everyone else buys. They buy or keep while everyone else sells. Investors of value should not purchase trendy stocks (because generally they are overpriced). Instead, if finance checks out, they spend in enterprises that are not household names. They also look for stocks which are brand names after the values of stocks have collapsed, assuming that those firms will rebound from losses because they have good foundations and consistency of goods and services.

Value investors think only for the inherent value of a stock. They think of the purchase of a stock for what it really is: a share of a business. They want to see businesses with solid values and sound financial performance, irrespective of what someone else does or does.


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Value Investing — Subjectivity & Discipline

The evaluation of a stock’s true worth requires a certain degree of financial research of analysis of a particular company, and also a good deal of subjectivity. The same valuation data on a company can be analyzed by two different investors may lead to different decision.

There is a small amount of confidence in forecasting growth among certain investors who look only at current financials. The projected growth outlook of a business and projected cash flows are mostly focused on other investment investors. And there are those that do both: Notable investors Warren Buffett and Peter Lynch are also known for the analysis of their financial accounts, and for the multiples evaluation, so that the situations when the market mispriced its securities can be identified.

The fundamental logic of value investment, despites various methods, is to buy properties that are lower than current value, retain them for the long term, and benefit from a return to or above the intrinsic value. It provides no immediate reward. Suppose, you don’t purchase a stock of Rs.200 in the hope of selling it for Rs.300 next day. Rather, you can have to wait years before your investment in stock pays off and sometimes you risk money. The positive thing is that the long-term returns in capital for most investors are taxed lesser than short-term investment gains.

You must have the courage and discipline to adhere to your investing strategy, similar to all investment methods. You may want to buy any stock because it has sound foundations, but if it is too expensive, you have to wait. If you don’t have stocks that satisfy all the criteria, you’ll have to sit back and wait before you have the chance to buy the stock that’s most attractively priced at the moment.


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Value Investing Techniques

The trick to buying an invaluable stock is to investigate the business carefully and to decide common sense. Christopher H. Browne, a value investor, advises wondering whether a business could raise its income using the following approaches:

  1. Product price hikes
  2. Increased turnover
  3. Reduced expenditure
  4. The sale or closure of unprofitable businesses

Browne further proposes the evaluation of the opportunities for success of a company’s rivals. However, all these questions appear to be answered in a speculative manner without any actual numerical results. Simply put: There are not yet any predictive tech programmes, which make value stocks invest a great guessing game. Warren Buffett also advises only investing in businesses you have closely learned about, or knowledge of, such as vehicles, clothing, electronics and foodstuffs.

The choice of stocks for businesses that offer high-demand goods and services is something that investors can purchase. If revolutionary new technologies grab market shares is challenging to forecast, but it is easier to assess how long an enterprise has worked and how it has been adapted over time to the challenges.

A. Insider Game

Any owners who own at least 10 percent of the share stock of a company; senior managers or directors or other investors can have such share percent –  are called insiders. Managers and executives of a corporation have a special understanding of the firms they control, so it is fair to believe that the company’s chances are favorable as they purchase their shares.

Similarly, if they did not see benefit opportunities, buyers with at least 10% of the company shares would not have bought too many. In contrast, a sale of an insider’s stocks does not necessarily signal negative news about the expected success of the firm — for a variety of personal reasons the insider could just need cash. However, if insiders make mass sales, a further investigation of the cause behind sales may be needed in such a case.

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B. Earnings Reports Analysis

Value investors ought at some stage to look at the finances of a business to see how it does and to compare it to others.

Annual and quarterly performance statements of a company are presented in financial reports. Companies shall submit that information to the Securities Board of Nepal (SEBON). You can find the information on SEBON website: – Much can be learned from the annual report of a company through its’ own website too. It explores both the goods and services provided and the direction of the business.

C. Financial Statements Analysis

The balance sheet of a company gives a broad view of the financial situation of the company. The balance sheet has two parts, one with assets of the company and one with liabilities and equities. The assets section lists a company’s investments; accounts receivable or money owed from customers; cash and cash equivalents; fixed assets like plant and equipment, and inventories.

Liabilities shows the account or funds owing by the corporation, unpaid liabilities, short-term debt, and long-term debt. The equity column represents the amount of capital invested in the Company, how many outstanding shares and how much profits the Company has held. Received income is a form of savings account for the Company’s cumulative gains. For example, retained profits are used to pay dividends and are seen as a symbol of a sound, lucrative business.

The income statement indicates how much revenue, business expenditures and profits are made. Looking at the yearly return rather than a quarterly statement: the average status of the organization would give you a clearer picture as certain businesses will face market revenue variations over the year.

In Summary

Investing in stock market for long-term purpose maintain above mentioned strategy is a value investment. In order to maintain them almost indefinitely one needs passion and discipline. Warren Buffett once said, “I’m never trying on stock market to make money. I buy it on the assumption that they could close the next day and not reopen for five years.” If you wish your stocks to be sold at a time of big buying or retirement, you can, by keeping a number of stocks and having a long-term view, only sell the stock if the price is above your fair market value. You can’t sell it unless exceeds their fair market value.

Without ever consulting academic texts too, you will become a value investor. Even following a passive tactic to purchase and keep a few portfolios that someone else has already analyzed on, such as mutual funds or exchange traded funds.

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