Value investing (or value investing) is an investment strategy that consists of buying shares that are priced less than their intrinsic value .
Value investors look for stocks that are undervalued by the market. They believe that the market overreacts both good and bad news, causing exaggerated movements in prices that do not correspond to the fundamentals of the company. This offers a profit opportunity.
The opposite style to the investment in value is the investment in growth . Although some authors point out that growth is also a component of investment in value and therefore should not be differentiated. In addition there is another style of investment known as market-oriented investment , composed in turn of several sub-styles that are neither growth nor value.
Value Investment Philosophy
Investors who follow the value investing philosophy argue that although prices are low now, they will tend to rise adjusting to their intrinsic value , that is, the price should reflect the value. For this, it is necessary to determine the value of a share, regardless of its price.
Value investors state that the intrinsic value can be determined by the book value of a share , which is determined by conducting a fundamental analysis of the company, for which the company’s accounting books (current or expected) can be used, discounting their futures income or in some cases discounting future dividends . The difference between intrinsic value and the share price in the market is known as a safety margin . The greater the margin of safety when making an investment, the greater the potential benefit.
Value investors are looking for companies that have lasting and stable competitive advantages . So the investment horizon is the long term, since the market will take to adjust the price of the share to its intrinsic value.
The value investing philosophy is consistent with behavioral finance , since they recognize that investors overreact to negative company data, making them quote at low prices. And therefore, the price moves away from the value of the share.
On the contrary, critics of the value style argue that this low price reflects the risk of the investment, and that if the shares quote cheaply it may be for a good reason. In contrast, value investors criticize growth investment, arguing that they are exposed to the risk that high price and profit multiples (PER and P / B) will tend to fall in the future. In addition, growth investors risk that the future benefits of a company are lower than expected, since it is very difficult to predict future benefits.
Sub-styles of value investment
There are three main sub-styles of value investment. They are not exclusive, but are usually used together. Even so, each investor in value usually prefers to focus more on one of these sub-styles:
- High dividend yield:They expect high dividend yields to be maintained in the future, offering a good return on investment.
- Multiples of low prices:They expect that when the economy improves the actions with low ratios ( PER and P / B among others) increase in value. Therefore, they focus on companies that have low valuation ratios, which indicates that market prices are low compared to
- Opposite investment:They bet on values that they believe are temporarily undervalued by market sentiment.
Origin of value investing
The term value investing was first used by Benjamin Graham and David Dodd, professors of the Columbia Business School. In 1934, in his book “security analysis”, Graham talks about the safety margin .
The most famous book of this investment style is “the smart investor”. In it, Graham is committed to a defensive style, investing in companies that are listed at a lower price than their theoretical book value. This offers a margin of safety against events that may affect the market.
This style of investment was growing over time and increasingly adds more followers. Some of the most famous investors of this style are Warren Buffet and Francisco García Paramés.