3 reasons why you should choose value investing
What is value investing?
First proposed by Benjamin Graham in his book “The Intelligent Investor,” the term only gained more popularity than ever by his loyal disciple, Warren Buffett.
Value investing is a long-term strategy for purchasing high-value businesses priced for less than their intrinsic value. By adopting this approach, investors hope to gain a profit difference in the far future.
Some of the most acclaimed value investors are:
Warren Buffett - Berkshire Hathaway
Annual gain: 20% from 1965-2020
Peter Lynch - Fidelity Investments Fund
Annual gain: 29.2% from 1977-1990
Monish Pabrai - Pabrai Investment Funds
Annual gain: 11.4% from 1999-2022
Just to see its tremendous power, the S&P 500 with dividends only rose 10.2% from 1965-2020.
Why should you choose value investing?
#1: The Market doesn’t reflect them all
The Efficient-Market Hypothesis presents us with a new idea that contrasts deeply with the reasoned analysis of value investing.
According to Forbes, this hypothesis argues that current stock prices reflect all available information, making them fairly valued as they are present.
In a nutshell, the theory suggests three key points:
The future course of a stock would be unpredictable.
Its upcoming price is random.
One must be lucky, not skillful, to win this fortune game.
However, it’s pretty standard in the market for a stock to be either overpriced or underpriced under the influence of:
The economic situation of a country (The Great Depression, The housing market crash of 2008)
The stock market crash in the Great Depression 1929
News about acquisition intentions (Elon Musk and Twitter ;))
An overall hype for unproven technology (Dotcom)
A temporarily poor earnings report
…
#2: It works because sometimes it doesn’t work
Every investor and trader knows about the fickleness of share prices, driven mainly by herd mentality and emotional decisions.
Value investor Joel Greenblatt with his Magic Formula for investing, once remarked:
“Value investing doesn’t always work. The market doesn’t agree with you. Over time, value is roughly the way the market prices, but over the short term, which sometimes can be as long as two or three years, there are periods when it doesn’t work. And that is a very good thing.”
The core of value investing lies in finding bargain prices for above-average companies, which may not makes much sense in the first period. Because of this, many refuse to keep moving and, therefore, miss the opportunity when the stock’s potential finally surfaces.
Value investing is a test of one’s patience and vision to see if they have “what it takes” to reap the sweet fruit in the end.
#3: To have a more quality input
In his biography of Warren Buffett, Roger Lowenstein often mentioned the prominent investor’s view of an investment as a marriage. One of them is:
“Knowing that divorce is not an option, Buffett was a bit — quite a bit — more cautious in choosing a partner. To the extent that he, or any investor, is not thinking about how and when he will get out, he will be more selective on the way in. As in a marriage, this is apt to lead to better results.”
If we already had the intention of holding a stock for a long time without selling it in the first few years, it automatically provokes us to make a more cautious approach.
Be it more research, thorough analysis, or keeping a keener eye on the market, this number of shares will be your companion in the following decade (or decades!). It truly helps when your partner is reliable and capable, doesn’t it?
In this way, value investing helps you to be more intentional in your input on investment decisions.
The underlying cons of value investing.
There are two sides to anything in the world; value investing is no exception. Although it’s an excellent strategy, you should consider another approach to investing if you find yourself deeply affected by one of these underlying cons.
#1: It requires deep knowledge and research
The core of value investing is finding companies that aren’t appreciated correctly by the general market. That’s why digging beneath the surface may take weeks and months to encounter that one potential entity.
But finding a prospect is just the first step, for low-priced stocks have certain risks. That is when a thorough understanding of financial statements can assist you in correctly identifying and valuing the company.
You not only need to understand the meaning behind each figure but also what it reflects about the company’s performance and future growth.
That's a lot of things to work on first if you don't want to value incorrectly, which will result in a negative ROI.
#2: It takes time, resilience, and patience
As mentioned before, value investing is a long-term strategy, so time is an essential factor here.
Most value investors hold their stocks for more than five years; some, like Warren Buffett, have had them for his entire life.
There may be times when you are tempted to sell because of a plunge in prices or the opinions of others. Resilience and patience are tested: if, after all, the hard work of valuing before can make much sense now.
Sum up
In the end, many could easily praise this strategy of value investing since it was the choice of many brilliant minds of investors. Yet, keep in mind that everyone’s background is different, and you should find the best investing approach that suits your financial capability, personality, and knowledge.
