Value Investing

Many fund managers describe themselves as value managers. Each however can follow very different approaches to value investing.

Let’s first define what is “value”. In simple terms, value refers to an asset, such as a share of a company, which is trading at a market price below intrinsic value. Intrinsic value is the price which fund managers determine an asset should trade at once they have done all their research on it.

If the market price is below intrinsic value, the asset is considered undervalued and potentially presents a buying opportunity for the fund manager. The opposite is true if it trades at a price above intrinsic value. It is then overvalued and considered expensive.

Below we define some of the different value investment styles;

  • Relative Value

These are managers which focus on comparing price multiples such as the price-to-earnings (P/E) ratio and price-to-book (P/B) ratio of companies with its peers. If these price multiples are inexplicably lower than the sector or its peers, then it may represent good value.

  • Contrarian Investing

These managers buy or sell assets against the prevailing market sentiment. These managers believe that the market sentiment for a given asset can lead to an under or overestimation of the true value of that asset, i.e. the market could overreact to positive or negative news which could distort the true value of a company.

  • High-Quality Value

These managers look for companies that have strong business and financial qualities and are also trading below intrinsic value.

  • Deep Value Investing

This is an extreme version of relative value where the manager identifies assets which have extremely low valuations compared to peers. This is a risky approach as companies in this category could be trading at these low levels due to a specific (and justified) reason and hence might not actually recover from these depressed levels.

  • Income Investing

While trying to identify undervalued assets, these managers also focus on companies that are growing dividends over time and have high dividend yields.

In each of the above approaches a good understanding of the fundamentals of the company is required. Simply relying on price multiples or dividend yields is not enough to make an informed investment decision. Ultimately fund managers need to make investment decisions that are best aligned to the interests of their clients. Deviating from a stated investment approach or taking unnecessary risk is something that needs to be scrutinized.

By |2019-04-08T09:45:16+00:00April 8th, 2019|