<p>Value investing is not a craze for small investors but is a life long habit! Read on to know more.</p>
‘Value investing’ usually refers to the act of buying securities, which are trading at a significant discount to intrinsic value. Given this definition, it can only be hoped that value investing is not a craze for small investors but is a life long habit! (After all, what will an investor profit from when buying securities at a premium to intrinsic value?)
The reason why such a question arises in the minds of investors is that financial literature and media has created this fiction of value investing versus growth investing.
Renowned investor Warren Buffett debunked this myth way back in 1992. In his annual letter he says: “Most analysts feel they must choose between two approaches customarily thought to be in opposition: value and growth...We view that as fuzzy thinking...In our opinion, the two approaches are joined at the hip: Growth is always a component in the calculation of value, constituting a variable whose importance can range from negligible to enormous and whose impact can be negative as well as positive.”
A lot of confusion arises because of the huge emphasis placed by investment guru and author Benjamin Graham on statistical measures of cheapness and it is assumed that all value investing means is to buy cheap stocks. Cheap as in low price-earnings, low price book and high dividend yield stocks.
Buffett debunks this mechanical approach. He says, “Unfortunately, such characteristics, even if they appear in combination, are far from determinative as to whether an investor is indeed buying something for what it is worth and is, therefore, truly operating on the principle of obtaining value in his investments.”
Also, growth has to be seen in the context of whether it has the potential of delivering superior returns in the form of cash flows for shareholders. Airlines and telecom in India have shown that just growing in terms of volume will not necessarily deliver shareholder returns.
True value investing refers to valuing a business on the basis of its future prospects and applying a ‘margin of safety’ to that estimated value. In the world of equity investing, there are a lot of uncertainties. The margin of safety refers to the act of buying securities only at a discount to the estimated intrinsic value and waiting for the right opportunity.
In my view, it is the only right way of investing for small as well as large investors.