Introduction to Part 2:
As Part 1 highlights fundamental of Value Investing, and core principles attached to it i.e Intrinsic Value and Margin of Safety, also some techniques in picking and identifying valued stocks, This part highlights concepts of Variant Perceptions, Bottom up Picking Strategy and Some Portfolio related aspects of Value Investing.
One of the most important concepts in Value Investing is Variant Perception. Variant Perception is difference of perspective or believes about the company, its future and any assumptions that investor has made in researching the company. Generally these are questions like, “What I think markets have missed on this company?”, “Whether the stock is really mis-priced or it is a value trap?”. One must have high degree of conviction before getting into stock, sometimes research efforts and emotional tendencies make it difficult to answer these questions more accurately. It has been seen that 9 out of 10 times, apparently undervalued stocks are really a value trap because there might some fundamental shift in the company, usually market would price right, Variant Perception is must filled in checklist of value investors in order to avoid pitfalls and value traps.
Bottom-up Stock Picking
Value investors prefers bottom picking stock rather the top down approach to pick stocks, Bottom picking stocks only focuses on individual companies. In Bottom-Picking investors ignore macroeconomics and market sentiments or news, rather they focus highly on business conditions, their competitive advantage and future prospects.
Concentration – Holding Concentrated Portfolio.
Most of the successful investors hold concentrated portfolios, because after much research one could possibly find one or two undervalued stocks out of ten. But this choice comes with a decent risk of blowing up the whole portfolio, if only one asset performs bad in the portfolio, that could result in a huge loss to business or even chances are business could go out bankrupt. As contrast if holding diversified portfolio, there would be lesser risk, But it would be almost impossible to beat the market.
The Downside Risk
Vital to Value Investing, is a simple question “What can go wrong?”, usually investors are too excited about potential upside of any stock after their research, and pay very less attention to what can go wrong if their assumptions and forecasts do not hold rational in the future, as stated several times, all the value lies in the future and the future is uncertain. Value Investors are trained to take very calculated risk, they only take a ride if there is high degree of conviction in their research and understanding. Always take calculated risk, downside risk should be defined before any potential upside, as a rule of thumb, if downside risk is higher than the upside potential, one should stay highly cautious, and generally it is advised not to invest in such condition.
Now What’s NEXT?
Next in line in our publication is a detailed introduction to Behavioral Finance, and how it could possibly be adopted and used to drive more value to value investing, Subscribe to our newsletter to directly and receive the publication in your INBOX as soon as it will be published, and also Follow US on Twitter and Facebook.