Value investing..!

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Value investing..!

We live in a world obsessed with instant money or returns in short term. Especially those who dwell in stock market, fabricated this term into the normality of stock market. Is it really possible to earn instant money? Can we make huge money short term? The answer is Yes and No.
For Yes…
Short term trades and money making is possible, but it is not a sustainable one. In the history of stock market no one made huge money in short term for a longer duration.
For No…
Share market is a place where long term investment on proper stocks yields better than average results, but in short term that is not possible.
“Value investing” a theory popularized in mid 20th century by Benjamin Graham was one best theory that has shown immense results on the longer run. The world famous investor Warren Buffet adopted this theory early in his career. This theory is one of the reasons that he has succeeded in the stock market.

What is Value investing?
Value investing is investing in a better performing stock which is priced below its book value and below average PE ratio. Is it really possible in the stock market.. i.e. can a better performing stock be priced below its book value or below average PE ratio? Yes, says value investing.
Value investors believe that, share market runs on the basis of overwhelming greed or extreme fear. This in turn proves that stocks in the market are not priced based on their actual value (At least few of them), instead of people’s behavior.

Let us illustrate this through an example, let us consider the stock of Company, Produces consumer goods and has a strong market presence is priced at Rs. 150/share. Its book value is Rs. 70/- and PE ratio is 20. Now let us consider company A has posted a decremented profit in the last quarter due to lockdown, what happens now, people sell the stock since they believe that the decrease in profit would affect the company’s growth. This creates a panic among other investors and more people join the selling spree, this would drag the share to unimaginably low levels.

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After the panic sell off, let’s consider the stock has reached Rs. 50/share. Now is the time for a value investor to enter the stock. Why? Two reasons 1. The stock is priced below its book value and 2. The PE ratio is below industry average. Why does this happen? This is because most people in stock market are either traders or short terms traders. They don’t invest for longer duration say years. So a single bad news can affect their mindset and that sets huge sell offs.In our case though company A is consumer good seller and it has a strong market presence lost its value with one quarter results. This might recover once the lockdown is eased and the company posts its next quarter results. What happens once the company recovers? Again the share prices would surge. The Value investing theory states three major rules:
1. Market price should be below book value
2. PE ratio should be below industry average
3. The company should have regular high dividend payment record

Is it really possible to find such companies in stock market? Yes it is, there are always stocks that are undervalued based on market sentiment and investors lack of interest. To state it pre-budget most of the PSU stocks were undervalued and few are still undervalued. Recent news about bird flu has dragged down the price of all the poultry companies.

The above news are just few examples, there are many occasions that prices of stocks falls irrespective of their value. If you couldn’t get any stocks to fit in this category, then practice patience. Graham suggests the basic quality of a value investor is being patience. Market always presents an opportunity to the patient observer. One example was the market crash during the lockdown. Though many investors exited the market value investors started accumulating best stocks and cheap price. What happened in 8 months time? The prices of the same stocks reached record highs.
So practice value investing when the opportunity arrives and rest of the time wait for the right opportunity. The final note do select stocks carefully based on their performance and past records, not merely based on the news around it.

Note: This article explains the concept of value investing. This is not an article to advice the readers to invest in a particular stock. If you take any decisions based on the concept listed in the article, then you are solely responsible for the outcome of the same. The author or the publisher will not be responsible for any of the outcome.

– Prakash Parasuraman, Blogger

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