Buying low and selling high makes a lot of sense in theory. But try and apply that to the complex moving parts of today's stock market, and it won't look quite as simple as it sounds. The reason behind this is that not very much is on sale right now.
The truth is, value investing has changed a lot since it was invented by Ben Graham in the Great Depression. So, with today's market the way it is, can we find businesses on sale? Or is value investing dead?
Value investing may not work the way it did a century ago, but investors can grow wealth by utilizing value investment techniques in a new fashion.
Famed investment expert Ben Graham developed value investment strategies during the 1920s when the Great Depression ravaged the financial landscape. He looked at the fundamental integrity of a company's business to see if external forces were erroneously impacting its stock price.
Graham developed specific criteria for identifying stocks with a likelihood of strong intrinsic value. Meaning that he looked at companies that were priced "on sale" to their actual value. He called this type of investing "cigar butt" investing.
1. Quality Ratings: Graham sought stocks with a B or higher S&P rating.
2. Debt-to-Asset Ratios: He favored outfits with a low debt ratio of 1.10.
3. Bargain Prices: He reviewed companies with P/E ratios of 9.0 or lower.
4. Dividends: He looked for stocks that were already paying dividends.
One of the expectations that Graham set for value investing was that other investors would also uncover the intrinsic value of these stocks.
When others jump on the bandwagon, undervalued stocks are likely to rise and mirror their true value, making Ben Graham very rich because he'd buy these companies for pennies on the dollar. But Graham also put an internal restraint on his investing philosophy.
The idea of buying so-called "undervalued" stocks tends to lead investors into some risky waters.
That military contractor stock you expect to rebound might not. The company could go on a losing streak and miss enough bids to file for bankruptcy. That's where Graham's value investing was brilliant.
If the stock is priced in such a way that the company's assets are worth more, there may be inherent low-risk value.
Although Graham had a wide board of options due to the Great Depression, this tried-and-true evaluation method can still be used even in today's complicated market.
Legendary investor Warren Buffett is considered a Graham disciple who continued to seek value stocks. But with a robust market in the 1960s, finding stocks with inherent liquidation values was far more difficult. It became harder and harder to find companies on sale.
There was also the fact that some of the companies Graham was buying weren't great or wonderful companies. Some were run by liars and cheats. Many of bargain basement stocks Graham bought were priced low because the company lacked intrinsic value and that's where risk occurred.
Charlie Munger persuaded Buffett to step away from cheap options and look for value in the company as a whole.
In the absence of an economic recession or depression, finding value requires a more refined understanding of a company's worth as it relates to stock price shifts because not everything is on sale all of the time.
While Graham's worldview was to own stocks when others did not, Buffett and Munger built on his principles and applied them to modern markets by buying and owning WONDERFUL companies when others do not.
In today's robust economy, value investing means remaining patient and investing for the long-term. When the market resets itself or makes an untimely dip, solid companies can suffer stock declines and long-term investors can earn excellent value.
Value investing requires a great knowledge about intrinsic values of companies and allows us to find value at opportune moments in the market.
Value investing has substantially evolved since Ben Graham, Warren Buffett, and Munger's strategies and will NEVER be dead. But it has changed.
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