DEFINITION of value investing
Value investing is an investment strategy where stocks are selected that trade for less than their intrinsic values, but that explanation packs a lot of nuance in a few words.
WHAT IT IS IN ESSENCE
Value investors usually seek stocks they believe the market has undervalued. Investors who use this strategy believe the market overreacts to good and bad news.
Hence, the stock price movements do not match with a company’s long-term fundamentals, giving an opportunity to profit when the price deflates.
With these type of investments, you don’t make fast money. But if the investment is right it will eventually blow up and early investors may get their reward.
Ben Graham developed this strategy in 1930.
HOW TO USE
This strategy involves the three-step process but most people believe the process is limited to only the first step.
The most popular value-investing technique is the discounted cash flow analysis. Meaning the investors seek to determine a company’s financial future. And then discount the future cash flows based on a chosen discount rate.
There are similar versions of this analysis that attempts to derive an intrinsic value from other cash flow. Like the dividend discount model, which focuses on dividend payouts rather than free cash flow.
Such methods try to find the net present value of a stock. Or what the company is worth when all future cash flows are discounted at a chosen rate.
Investors seek out companies that have valuable assets such as land or intellectual property.
Often, market conditions change in a way that makes assets such as patents considerably more valuable than they were previously.
Value investing can generate huge returns if executed effectively. Your decision to invest for value may depend most on your investing goals and your time horizon.
If you’re an older investor looking for wealth preservation and low-risk returns, value investing is a smart choice. Always keep in your mind, large, profitable, paying means you’re unlikely to experience significant losses.
And you should outperform the market if you succeed in finding undervalued stocks.