Shane Neagle, Editor In Chief at The Tokenist, delves into value investing, exploring whether it is making a comeback, or whether it’s been here all along.

As savvy shoppers prefer to wait and buy a TV when it goes on sale rather than paying full price, a value investor seeks to buy a stock at a discount. This model requires a substantial amount of patience, diligence, and research—but it can also pay out well. 

Understanding Value Investing

Prices of stocks and other assets fluctuate based on demand, market sentiment, good and bad news, and other factors. At times, these fluctuations might leave a stock either overpriced or underpriced. This is why value investors are sceptical of the efficient-market hypothesis and believe a stock's price does not always reflect its intrinsic value. 

Value investors have the premise that they will own parts of a business when they purchase its shares. Of course, this is true for all investors—everyone investing in a business will own parts of it, even if they are not value investors—but some just "play the market," meaning they take action based on technicalities, and disregard the fundamentals. 

Value investors call the difference between a stock's current price and its intrinsic value "margin of safety." A higher margin of safety suggests there is the potential for more profitability and a lower risk of making a loss. Since not every value stock will turn its business around favourably, the margin of safety represents an investor's risk tolerance. 

How To Spot A Value Stock?

The prime feature of a value stock is that it is undervalued in comparison to its financial performance — metrics like revenue, earnings, and cash flow. Small businesses can record these using a simple accounting software. Yet as the company grows, the task of compiling such information by the company — and accessing such information by a researcher — becomes increasingly difficult. We’ll dive more into that in a moment.

Other defining characteristics of a value stock are fundamental factors like brand, long histories of success, business model, consistent profitability (even if insignificant), target market, dividend payment, and competitive advantage. For instance, Cisco Systems, Inc. can be deemed as one of the biggest value stocks available. The company, which delivers software-defined networking, cloud, and security solutions, tends to display most of the value stock characteristics. Here is a breakdown:

  1. Since 2015, Cisco has been delivering between $47 billion and $50 billion in revenue every year (it has been profitable and has steady, predictable revenue).
  2. It is a market leader in computer networking systems. In 2019, Cisco had more than half of the entire market for Ethernet switches.
  3. It has a reputable brand worldwide, and its products are present in the Americas, Europe, and Asia.
  4. It pays dividends (although this isn't a requirement).
  5. Most importantly, Cisco trades for a relatively low valuation compared to most of its tech peers.  

However, it is worth noting that finding value stocks requires a reasonable amount of subjectivity — it can be more of an art than a science. 

Pros And Cons Of Value Investing 

As a favoured investing strategy by some of the world's most prominent traders, value investing comes with a number of unique advantages. In the first place, it offers the potential for significant gains. This is because value investors buy stocks at a discount and sell when they come to fruition (reach the estimated intrinsic value).

Moreover, since value stocks are already severely undervalued, they are not subject to the risk of suffering extended losses. This creates a favourable risk/reward ratio given that the stock is evaluated accurately. Further, considering that value investors buy for the long term, they also don't have to worry about short-term fluctuations and volatility. However, value investing also comes with a number of downsides. Firstly, it is quite difficult to identify undervalued companies. In addition to a certain level of expertise, value investors need to have a fair amount of subjectivity to be able to accurately estimate the intrinsic value of a company.

Furthermore, value investing requires a substantial amount of patience and diligence. At times, value investors might have to hold their positions for several years as it can take quite some time for the market to understand the value of a stock. Therefore, those who expect to reap the benefits fast might find that this strategy isn’t ideal.

Prominent Value Investors

Throughout history, a number of investors have managed to earn a name for themselves for being exceptionally successful value investors. Among them, two names stand out: Benjamin Graham and Warren Buffett.

Benjamin Graham was an economist, professor, and investor who is regarded as the father of value investing. He published Security Analysis in 1934, and The Intelligent Investor in 1949 as the founding texts of value investing. In his books, Graham described the concept of intrinsic value and the necessity for establishing a margin of safety when trading value stocks. Besides his books, Graham made contributions to value investing by mentoring legendary investors like Warren Buffett. Buffett, who is now CEO of Berkshire Hathaway and the world’s 8th richest person with a net worth of over $100 billion, studied under Graham at Columbia University and worked at Graham's firm for several years.

Following Graham's school of value investing, Buffet looks for securities that are unjustifiably undervalued compared to their intrinsic worth. He has become one of the world's most successful investors, earning himself the nickname "Oracle of Omaha," which implies other investors closely follow his investment picks and comments on the market.

Nevertheless, it is worth noting that many financial experts believe value investing is an old-school strategy. Some argue that the rise of hard-to-analyse intangible assets—assets that are not physical in nature—has made value investing irrelevant in 2021. A look at Keith Gill's investing strategy suggests otherwise, however. 

Keith Gill: The Modern Value Investor

Keith Patrick Gill, the guy who is largely known for his role in the GameStop saga, is a self-characterised value investor. Known as Reddit user u/DeepF***ingValue, he is a prominent trader within the retail-centric r/Wallstreetbets community. For his role in the GME phenomenon, Gill faced a class-action lawsuit and also had to testify before the House Financial Services Committee. In his testimony, he acknowledged that GME was undervalued compared to its intrinsic value. He said:

"I believed the company was dramatically undervalued by the market. The prevailing analysis about GameStop’s impending doom was simply wrong."

Gill also declared that he examines a company's value before investing. "As an individual investor, I use publicly available information to study the market and the value of specific companies. I consider a complex array of factors and track hundreds of stocks – all in search of market inefficiencies," he stated.

All of this suggests that Gill is openly a value investor. And even though it has become difficult to use value investing techniques due to the increasing complexity of the markets, value investing continues to remain alive and well.