Post the 2008 global economic crisis, many traders and investors switched to a unique investment style – Value Investing. It is a popular investment style introduced by Mr. Benjamin Graham, an American Economist, also known as the ‘Father of Value Investing’.
He is also known as the ‘Dean of Wall Street’ and was considered among the best security analysts. This style was made public with a book authored by the American Economist himself – The Intelligent Investor.
The strategy was not so popular for a long time until Mr. Warren Buffett, CEO of Berkshire Hathaway Inc, became very rich by following it.
Warren did not want to attend any institution of formal education but was persuaded by his father.
Thus, he completed his graduation from the University of Pennsylvania. For further studies, he applied to Harvard Business School but got rejected. So, he joined Columbia University and had Mr. Graham as his teacher.
Graham and Dodd’s compilation of an investment strategy guided his disciple towards the life of an accomplished investor. Mr. Graham thought of the market as a living entity and called it Mr. Market. Warren championed this idea.
The interaction with the best security analysts and the book proved to be life-changing for Warren. He has now been titled as ‘Oracle of Omaha’ as he is among the world’s wealthiest people and is a renowned value investor.
But many of you might be confused as to what is Value Investing? Let’s find out!
What Is Value Investing?
It is a long-term investment strategy that involves around calculating the intrinsic value of financial security. This value is then compared with the market value, which decides if the security is undervalued or overvalued.
If financial security is overvalued, it is unfavorable to buy it, and if it is undervalued, it is a green light to buy. The intrinsic value is calculated by using the tools of fundamental analysis.
Warren Buffett, Rakesh Jhunjhunwala, Ramdeo Agrawal, Charlie Munger, and many more value investors are famous across India and the world. Many investors follow this investment strategy as it is considered to reap incredible results in the long run.
Father of Value Investing
Benjamin Graham, an American economist, investor, and professor, is widely known as the ‘Father of Value Investing’. He was born in London, England, the United Kingdom, on 9th May 1894.
He received his education from Columbia University and started his career on Wall Street, which also marked the founding of the Graham-Newman Partnership. Later, he taught at his alma mater and UCLA Anderson School of Management, University of California, Los Angeles.
His work was highly focussed on investing, and managerial economics has paved the way for modernized value investing in diversified holding companies, hedge funds, mutual funds, and other investment instruments.
Just like his work, his investment philosophy was based on fundamental analysis, activist investing, investor psychology, minimal debt, concentrated diversification, buy and hold investing, buying within the margin of safety, and contrarian mindsets.
Graham had many disciples who became very popular due to unparalleled success in the value investing world, like Warren Buffett, Irving Kahn, and Sir John Templeton.
He influenced Buffett’s life in such a way that in an interview, Graham was described as: ‘Second Most Influential Person’ in his life next to his father.
Further, he authored a few books titled ‘Security Analysis’, ‘The Intelligent Investor’ and was the author of several research papers. It was his unique investment style that helped him and his disciples in becoming the most successful traders.
He breathed his last breath on 21 September 1976 in Aix-en-Provence, France.
Value Investing Stocks
Value investing is all about selecting the right stocks at the right time. So, here’s a list of some Indian Stocks that are good for investors who follow this unique investment strategy.
The list is as follows:
Value Investing Book
It is said that books are man’s best friend. We’re sure that nothing is further from the truth, and no one can deny this fact. The best source to learn anything (I repeat – ANYTHING!) is always a book.
If we are to discuss the books for value investing, it would be incomplete without this quote out loud – “When others are greedy, be fearful, and when others are fearful, be greedy.”
Now, without any more delay, below is a list of some value investing books.
The Intelligent Investor | Benjamin Graham
This book is known as the ‘Bible’ for value investors as it is written by the Father of Value Investing, Benjamin Graham. This book is the one that changed Warren Buffett’s life.
It was written in 2003 and provides useful information around the concept of value investing.
Value Investing and Behavioural Finance
Written by Parag Parikh this book advises you about spotting the market opportunities and setbacks for the various financial instruments. It is a must-read for beginners, investors, bankers, fund managers, students, and stockbrokers.
The Dhandho Investor
The Dhandho Investor written by Mohnish Pabrai is based on a simple formula – “Heads, I win! Tails, I don’t lose much!”
It lays a clear framework for every individual who is a beginner or is walking the road to a successful investment using value investing.
The Little Book of Value Investing
Christopher H. Browne came up with the book The Little Book of Value Investing that becomes the best guide when it uses the perfect analogy to explain the concept. This book is among those few books. It uses the example of supermarket shopping to simplify the concepts of the stock market.
Value Investing: From Graham to Buffett and Beyond
Learning from other people’s experience is considered to be important in life. Imagine being able to learn from the market experiences of the top global investors.
Bruce C. Greenwald, Judd Kahn, Erin Bellissimo, Mark A. Cooper, Tano Santos wrote a book on Value investment that helps investors to follow the right investment style to make a profitable investment.
Security Analysis on Wall Street
This book written by Jeffrey C. Hooke talks about various stock market aspects like the growth of private and hedge funds, numerous scandals, major market crashes, and other related situations and developments.
It is considered to be a continuation of the book by Benjamin Graham and David Dodd – Security Analysis.
The Little Book That Beats the Market
The Little Book that Beats the Market written by Joel Greenblatt is the book that helps you identify the profitable businesses that are available for lower prices.
Further, you learn how to outperform the common market strategies using the straightforward and systematic formula given in this book.
There are numerous value investing courses available in the online and offline market. To select the right course, the learner has to research a lot. This section will help you in this quest to find the “right” value investing course.
Without any delay, let’s begin!
Some points to consider while you search for the best course of value investing are the quality of the content and the points covered in the course. You must make sure that the course talks about the points you wish to learn.
Another aspect you must be very cautious about is the medium of content provided. You would not want to learn in a medium that doesn’t work for you. Further, you must check if the course is available in multiple languages. If yes, does it offer the one that is most favorable for you?
Two points that we are sure you won’t miss are the credentials of the educator and the course duration. Learning at a self-pace is always preferred over a pre-decided timeline of the course.
Lastly, an aspect that is missed by the majority of the course subscribers is the course material accessibility. The content should be accessible for a period that suits your learning timeline.
How To Do Value Investing?
Now that you’ve learned the factors to look for before subscribing to a course, you must be confused about the process of value investing?
Don’t worry; we got your back, Jack!
There are many things that build up the practice of value investing. Let’s discuss them individually.
Value Investing Formula
The essential requirement in the calculation is Intrinsic Value, as it helps the investor know if the financial security is overvalued or undervalued. This valuation guides the investor toward the right investment options.
The formula to calculate the Intrinsic Value of any financial segment is as follows:
Intrinsic Value = E (8.5+2G) x 4.4/Y
Here, E stands for Earnings Per Share, G is Expected Growth Rate, Y is the Current Yield of Triple-A Rated Corporate Bonds.
The value received after applying this formula is compared to the market price. If the market price is less than the intrinsic value, it is undervalued, and if not, it is overvalued. Undervalued security is favorable for buying and overvalued for selling.
Value Investing Strategy
Although the value investing strategies vary from investor to investor, some common points are considered while selecting the best fit financial securities for investing. Value investors like Warren Buffett, Kenneth Fisher, Bill Miller, and others have spelled these out.
These strategies are:
- Love The Business You Invest In
Just like you wouldn’t want to spend your life with an individual who is beautiful on the outside, don’t invest in a company just because the financials look decent. You must get down to the insides to make the decision.
You must have the curiosity to learn about every single detail about the company in order to make the best decision. Many companies have fantastic quantitative aspects but fail you in the qualitative aspects.
These things might hurt your investment as each element plays a role in breaking or breaking your investment deal.
- Invest In Businesses You Understand
There is a tiny difference between making an educated decision and taking a guess. This difference might take you places in case of investing in a company.
To make a calculated and educated decision, you must understand what and how the company works. The legends of this field are highly focused on this point. It’s not like if you don’t completely understand, you shouldn’t invest at all.
In this scenario, you can look for other aspects that might aid in increasing your profit margin and also add the uncertainty of risk as a factor in your return expectations.
- Buy Business and Not Stocks
When you think of the long term, you should look for suitable businesses and not stocks. This translates to ignoring the current trends and noise of the stock market.
Stocks can seem favorable in the current scenario but a business with long-term prospects will grow more than a stock that is enjoying the limelight today. Thus, look for prospective businesses and not trending stocks.
- Don’t Worry Too Much About Diversification
In contrast to building a diversified portfolio, value investors tend to not focus on diversification. When a value investor finds a stock that is undervalued, they buy them in quantity.
This practice is against the popular belief of not investing in just one financial security. But value investors feel that keeping an eye on limited stocks is easier than having a diversified portfolio with no time to monitor them.
- Ignore The Market Trends
The market trends matter to traders who hold positions for a shorter span. If you are investing for the long run, the momentary fluctuations and volatility don’t influence your decisions.
Thus, ignore the market 99% times as they don’t depict the real value of financial security.
- Invest in Well-Managed Companies
Imagine being part of a team that is the best but led by a not-so-good manager. It’s no surprise if you guess that the efficiency of the team would be impacted hugely.
This logic also works for a company. If the management is dedicated to the company and has long term plans, it is certain to grow leaps and bounds.
But, if the management is lethargic, the shareholders along with the company will suffer.
Thus, look for companies that are performing well and are managed by visionary leaders.
- Best Investment is The Best Guide
Whenever you are looking for new investments, the scale should be your current best investment. You should search for an investment that is better than what you already have.
This will help you invest in the best deals and also enhance the quality of your portfolio.
The strategies followed by the legends of value investing are many and varied. But a small compilation of the most used ones is given above. Hope these value investing tips help you gain insight into their investment psychology.
Value Investing Metrics
The tools to reach your investment decision belong to fundamental analysis. Some of these tools are:
Price To Earnings Ratio
As the name suggests, the ratio helps in comparing the market value to the company’s earnings. Actually, this ratio tells you how much you are willing to pay for a security based on its past earnings.
The formula is –
P/E Ratio = Share Price/ Earnings Per Share
A low P/E Ratio indicates that the stock is undervalued and a higher value means it is possibly overvalued.
Price To Book Ratio
This ratio compares the net value (assets – liabilities) of the company to the market capitalization value. It tells you the difference between the market value and book value of a stock.
The formula is –
P/B Ratio = Share Price/ Book Value Per Share (BVPS)
If the P/B Ratio is around 0.95, 1, or 1.1, it is considered to be trading at book value. A value below 1 is considered opportunistic as the stock is trading at a value less than its book value and vice versa.
Debt To Equity Ratio
The name makes it very clear what this ratio is about. This ratio helps in analyzing the ownership of a company’s assets. It will tell you the percentage of assets bought on debt.
The formula is –
D/E Ratio = Total Liabilities/ Shareholder Equity
In general situations, a higher value of this ratio means that the company has high amounts of debts and is possibly run poorly.
But, in some cases, the debt is to expand the company’s operations and generate additional streams of income.
So, the investor needs to evaluate the reasons for the value of this ratio.
Free Cash Flow
The leftover cash after the company’s capital expenditures (CapEx) and operating expenses are taken care of is known as the Free Cash Flow. Cash is an important metric in evaluating a company.
This parameter also tells you the capability of the company to generate cash. The formula is –
Free Cash Flow = Cash produced though company operations – Cost of expenditures
A higher FCF could be due to reducing expenditures or increasing cash generation and it is a green signal for the investor. Conversely, if the FCF is low, the investor should look for the reasons and act accordingly.
Price/ Earnings to Growth Ratio
This ratio is a modified version of the P/E Ratio discussed above. In addition to the latter, this ratio also takes into consideration the growth of earnings.
It provides you with a more efficient picture of a stock being undervalued or overvalued.
The formula is –
Price/ Earnings to Growth Ratio = P/E Ratio / Annual EPS Growth
Value under 1 translates to an undervalued financial security and above 1 means overvalued. Since it considers the expected growth, it is an important metric in value investing.
Why Value Investing Works?
Since it is now clear that value investing is a distinctive style of investing and has been popularized by one of the richest persons in the world – Mr. Warren Buffett. He has been following this investment style for decades.
The strategy of value investing works in the stock market because it forces investors to buy stocks after the stock corrections and at the time when the market downturns.
Thus one makes an investment when it is psychologically tough for an investor to make a buying decision and sell them when the stock price jumps or is overvalued. This helps them to gain maximum returns on their investment.
So, here the whole meaning of value investing lies in finding the intrinsic value of financial security. This value indicates if the security is undervalued or overvalued and guides the investor towards profitable investments.
We hope that this detailed article on value investing has enhanced your knowledge in the field and motivated you to invest in the stock market using this investment style.
Happy trading, Amigos!
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