Monday, February 14, 2011

Finally, an intro to Value Investing

I've been talking about long term investing and, more specifically, value investing. I suppose I should probably explain what the hell it is.

Value investing is a style of investing that uses fundamental analysis, which means basing your investment decisions on what is really happening with the business in question. This is in contrast to a technical analysis approach which looks at the (arbitrary) short term movements in a stocks price and tries to predict/profit from which way it will move next. In the short term, a stocks price movement absolutely does NOT always reflect the true nature of the business .. so why is it useful to us? It isn't. When a stock's price goes from $10 to $5 in a single day, it is almost always the case that the business itself did not have it's value cut in half within a single day. So why does the stock price get cut in half? Because the short-term market price is crazy!

The only way the price of a stock is useful to us is in comparing the true value you are getting in that business (slightly more advanced topic which I will cover later) relative to the price you can buy it for.

There are two principles to value investing:
1. Intrinsic value (this is the "true value of the business" that I alluded to above)
2. Margin of safety (you don't want to pay $1 for $1 worth of value)

You need to assess a companies intrinsic value and then purchase the stock IF you can buy it at a price that is less than or equal to about 2/3's of that intrinsic value. Believe it or not there are plenty of companies that you can purchase like this.. that is, you can buy $1 of value for only $0.66.

My next post will involve a more detailed (and coherent!) explanation of the margin of safety principle. For now I'll leave you with this interesting fact: Seth Klarman wrote a book entitled 'Margin of Safety,' but only published a limited number of copies. Value investors today are paying more than $500 for a copy of the book on eBay, Amazon, etc!! They must see A LOT of value in it to pay $500+ for it.


  1. I love blogs like this. Explanations of theory in stock trading makes for an enlightening read. Keep the details coming.

  2. I've been looking for a blog like this, definitely following.

  3. might want to get a little into financial statement analysis.

  4. Thanks for this, I can't wait for more of your posts, they're so informative.