JasonC

Value Investors, Remember Margin of Safety

The author writes "I don’t think the credit crisis is done, and so I urge a conservative posture". This may be sound advice, but no one acting on it is engaged in value investing. It is trend following and reacting to news.

Value investing as such does not care about the sign of the next item of news. It does not try to time the bottoms of every cycle. It does not take risks when it expects a trend to be up and pull in the horns when it expects the trend to be down.

Value investing, if it means anything, means investing or refraining from investing or selling, based on whether an independent appraisal of the real value of the item differs materially from the current market price on offer.

Value investing, as such, never believes the current market price, and it never believes the trend in that price nor in news thought to be driving it, contains the most relevant information. Instead, it gets its ideas of the true value of a company from objective information and mathematical models, typically of the discounted present value of expected future cash flows.

If someone wants to sell you dollar bills for 20 cents, you don't care a lick whether yesterday's headline was bright and sunny or dark and gloomy. You look at the item on offer and objectively measure it, and see it is fairly worth a dollar. And you look at the level of the price - not the trend, not the sign of the trend, past or future, but the *level* - and simply ask, is it materially different from the current price?

A value investor might decide that financials are not a buy at present prices - if his model of their future cash flows tells him that they are dollar bills selling for $3 apiece. But if his model of their future cash flows tells them they are worth 5 times to 2.5 times the current quote, he is not sure which, then he buys them or he isn't a value investor.

There isn't a line in the article about what the author thinks any of the items he discusses are actually worth. Instead, he is talking about the news and trends and trying to call bottoms.

That is a perfectly legitimate activity and he may be doing it well and his advice on it may be sound. More than I know or care. But it isn't value investing. It isn't value anything.

Market timing and trend following and news trading in stocks with lower PEs isn't value investing.