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Athena financial & insurance services, inc.

Registered Investment Advisors
Text Box: There is an old expression which states “there are no good or bad assets, only cheap or expensive ones.” This week we’ll take a closer look at so called “value investing” an investment style which favors good stocks at great prices over great stocks at good prices. Of course, it’s not quite as simple as it sounds. Above everything, value investing requires patience. Whereas growth investors might typically hold a stock for a year or so, value investors plan on holding their picks for three to five years. Value investors don’t try to predict which way interest rates are heading, or the direction of the market or the economy. They don’t look at stock charts and they don’t pay much attention to analysts’ buy/sell ratings or earnings forecasts. Value investors don’t try to determine if all the bad news is already built into the stock’s price, or if further disappointments will drive the share price down further. Value investors generally feel that every stock will eventually have its day and view all industry sectors as cyclical, meaning that each sector, and hence the stocks making up that sector, will go through periods of out performance when that sector gets hot. Then, as sure as night follows day, the sector companies over-expand their manufacturing capacity, growth falters, profit margins contract in the face of product oversupply, and stock prices plunge. Eventually the excess capacity is absorbed, demand picks up, and the cycle repeats. The value investor doesn’t care if stock is in a hot sector or a cold one, he is looking for stocks that appear to be undervalued. Typically, when the market sours on a sector, all of the stocks in that sector get hammered. The value investor is searching for the stocks in that industry which have been hammered unfairly. Rather than trying to predict when a sector will come back a value investor compares a stock’s current valuation ratios such as price/earnings or price/book to their historical ranges, and from that information determines whether it’s time to buy or sell the stock. For instance, suppose that you’ve determined that over the past five years, a particular stock’s price/earnings ratio has ranged between a low of 15 and a high of 50. Value investors would consider the stock a buy candidate if its current P/E is around 20 or less. Once purchased, they would hold the stock until its P/E moved into the 40 to 50 range when they’d consider selling. The only reason they’d sell sooner is if the company’s long-term fundamental outlook significantly worsened The heart of value investing is to identify the ugly duckling stocks with swan potential. Finding companies that are unloved, unwatched or unknown yet which still represent sound investments can be quite tricky; after all there is always the possibility that a stock is cheap because a company is going nowhere. Buying low and selling even lower is not exactly a prescription for investment success. Unfortunately, there is little about value investing that is glamorous, romantic or exciting and it can take years to pay off. That’s why few investment advisors push the philosophy. But for the patient investor the payoffs can be enormous. One out of favor sector where value stocks may be lurking is homebuilding. Many of the stocks in that industry are off 50% from their highs and emotional investors fleeing the problems of that sector have punished the good companies along with the bad, not unlike what happened to bank stocks a few years back. Homebuilding stocks may not yet have hit rock bottom, but it is definitely a sector I would scour closely looking for a value six months to a year from now. Remember, value investing is not about hitting homeruns or hoping for the big score; it’s about hitting for average.▲

Another name for cheap...

Volume 17, Issue 20

October 16, 2006

Investing For Value