The value investing approach was developed by Benjamin Graham in
the 1920’s and 1930’s. Ben’s approach to security selecting compares the
market price of a security (the most recent price traded on an exchange) to the intrinsic
value (the value that a share of stock would be worth if the business were sold in a fair
transaction involving a knowledgeable buyer and seller). Studies have shown that value
investing historically has had less risk and has outperformed the markets over the long
run (past performance does not guarantee future results).
What is value investing? How does it decrease risk? If
it’s so good why isn’t everybody doing it? To quote one astute value investor,
"A basic premise of value investing is that stocks, like other goods and services
should be purchased at the most attractive prices possible, preferably at a discount to
their "intrinsic worth". The reality for most investors is just the opposite. In
other words, investor comfort levels and, therefore, demand increase when prices rise, and
diminish as prices decline. The higher the stock rises, the greater the perceived
opportunity. Value investing, on the other
hand, takes a contrary view to this highly emotional process. By systematically reducing
risk when others ignore it and taking risk when it is feared, one can capitalize on
valuation discrepancies (opportunities) which develop from time to time. The greatest risk
that a value investor confronts is the loss of either patience or discipline when faced
with the prospect of being out-of-sync with the market. The value in value investing is to
provide a coherent system for rational decision making .... the purpose of which is to
compound wealth while minimizing risk. Its basic premise is that the price one pays for an
investment makes a significant difference in the return one receives. Therefore value
investing challenges the belief that one must take on greater risk to get greater return.
There are a variety of reasons why value investing is not
popular. Value investing is a contrarian style so most managers do not use it since it is
easier to defend their position by going with the consensus. Also it is easier for a
broker to sell stocks that are hot e.g.: Internet stocks selling at extraordinary
multiples because many investors feel compelled to be part the of excitement. Many times
though their biggest excitement is the ride down.
To find out more about value investing E-mail
us for a consultation.
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