(Last Updated On: July 21, 2020)

You might have heard or read about various successful stock market strategies in India and around the globe. The three most common ones being Value Investing, Growth Investing and Dividend Investing. That takes us to our today’s topic where we’ll be specifically discussing on Value Investing in India.

To know investing, you must first understand risk. While a ton of different strategies of investment can be applied to earn money and some of them even will, the risk is always prevalent, sort of omnipotent, if you will. It should also be kept in mind that mitigating risk has its costs, beyond money, including time and opportunity. With that, let’s get into it.

What is Value Investing? Meaning

To start with, value investing is basically investment in stocks and bonds based on the difference between intrinsic value and real value of the company, then you wait for the market to correct itself. Now intrinsic value is basically the book valuation of the company, simply put, the difference between assets and liabilities divided by number of shareholders, while also accounting for market segmentation, target markets, free cash reserves and revenue growth. Let’s understand with an example, in non-pretentious terms.

Example:

Imagine its February 2020. COVID-19 is not the biggest issue in the country, we can all see entire faces and our greatest topic of discussion is the Fiscal Budget. You walk down the road one evening, to see someone selling masks at 5 bucks a pop. Now you happen to be a value investor. You are aware that those masks would be very handy when Corona does hit, which is inevitable because the infection rate of the virus is off the charts.

You are aware of basic principles of price and demand, so you know that vendor is underselling the masks, in a simple matter of trade, because he is unaware of the demand shock that is about to reverberate which would result in massive revenue growth, causing him to undervalue his asset, his inventory. That is basically him (a company) internally, intrinsically, valuing his asset lower than what it could be valued at, i.e. present time value in case of future projections.

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How does Value Investing Work?

You can’t buy the stock in that example, obviously, but if you do want me to drive it home, follow the basic principle and buy cheap. You buy the masks in huge quantities, wait for people to bang plates in balconies, then sell them at a much higher price. Of course, that is called hoarding which is illegal and unethical, but you get the idea.

To put it rather simply, there are two ways to make a profit, either you buy cheap or sell high. While the latter cannot always be in your control, the first one can be, and that is what value investment focuses on.

Value Investing also focuses on diversification, basically “don’t test the depth of river with both feet”, and “Not to put all eggs in one basket”, you get it. The idea is if one industry goes down, your investments in other industry are safe, or you have time to withdraw your investments before the cascading effect destroys that industry as well. Good stuff.

Take Rashtriya Chemical Fertiliser (RCF), (on July 1, 2020) trading at about Rs.46.75, but its book value is Rs.57.75, while it has enough assets that even if the company liquidates, the stock can generate above Rs.100 per share. The difference between the ask price and book value is called margin of safety. Why? Because when you buy it at Rs.46, you automatically make Rs.11 per share just by waiting the stock to get to its book value, i.e. Rs.57 , sort of like a safe cushy investment.

Why aren’t people buying it then? Because it’s a long game, and there is difference between investing and trading, which Benjamin Graham has pointed time and again, which also brings me to the history of value investing.

History of Value Investing

Value Investing as a concept was formally introduced by Benjamin Graham and David Dodd in their book Security Analysis in 1934. The basic idea directly opposes Efficient Market Theory, which basically states that stocks’ prices represent all the information available at all the time. The theory has several inbound drawbacks like not all information is available to everyone and not all people are rational.

Value Investing instead focused on value instead, basically saying don’t try to predict movements but try to find companies valued lower than they should be, buy them and wait for market movements to follow. Sort of like the hare and the tortoise, but in this instance the hare sells stock when tortoise catches up. Weird.

Anyway, all this further lead Warren Buffett, the CEO of Berkshire Hathaway, who was a student of Benjamin Graham to adapt these principles (and get an A+!) to become one of the richest men in the world. He often mentions how particularly Chapter 5 and 8 of Intelligent Investor, a book on value investing by Benjamin Graham,  has helped him guide his investing journey. This further lead to popularizing of concept. Notable followers include David Dodd, Charlie Munger, Christopher Browne (another Graham student), and billionaire hedge-fund manager, Seth Klarman.

And, now a very crucial question…

Does Value Investing Work in India?

Yes. The above principles not only work better, the combination of math and market study in this technical method of investing is also supported by one pillar of Indian equities and bond market, which is the fact that majority of investors in India are not Institutional, but lay individual investors like you and me, which means a majority of markets is sentiment driven, often times resulting in numbers that math doesn’t dictate, making stock cheaper than what it should be.

But it also means an open market is privy to insider trading, inefficiencies of management, illegal activities. This causes people like Kunj Bansal (CIO, Sarthi Group) to stand in critique of the method. He also mentioned it has failed in past 10 years, but it should also be taken into account that value based quant investments are obviously affected by fundamental factors. And factors like failing promoters, unethical bank practices (which he mentions) happen to entirely fundamental, which is basically why there is need for human involvement in value investing.

It is a simple equation, you can take algorithm to do the math, but you also have to be involved to take fundamental aspects into account, which advocates of value investing have pointed out time and again.

Conclusion

To conclude, you know how investments are subject to market risks and you should read documents carefully before investing. Moreover, investing strategies are a way to mitigate that risk. There is no one sure shot way to earn money in stock market, value investing has its pros and cons too. A proven strategy for big investors, do you think Value Investing can be a reliable approach, in a country like India too? And hey, who said getting rich was easy, right? Feel free to discuss any of the stock investing techniques you like, or share any opinions thereon.

Disclaimer: There is a high degree of risk involved in stock trading and investing in any risky asset classes. The details given on this website about “Value Investing in India” or any other topics, are for informational purpose only and cannot be constituted as professional advice in any regard. Please follow due diligence while investing your money.