Many investors would love to emulate the most successful investors, yet ignore their methods – following simple tricks and definitions that miss undervalued stocks primed for growth. Successful value investors take a broader view, and consider many commonplace ideas questionable, including the notion that risk and volatility are one and the same. (See the general advice warning below.)
The larger picture of investment risk
All investing carries some risk, but how to define it remains debated. To many, risk is synonymous with volatility – the more a stock’s price swings, the riskier it’s assumed to be. That leads to odd conclusions, such as chasing volatile stocks simply because they belong to innovative, dynamic companies. But volatility alone doesn’t tell you whether a company will succeed. Volatility is easy to track, which is partly why it’s used – but the factors that really drive long-term performance (management style, worker productivity, company culture) are harder to measure, and unpredictable risks like disasters and disruptive innovation harder still.
Looking for companies with value, not stocks with trends
Value investors following the Graham-Dodd school take a far more all-encompassing view of risk and value. Rather than chase market trends, they look for value in the company itself – examining concrete measures such as the price-to-earnings and price-to-book ratios, and judging whether a business is well run and well positioned against future threats. To a value investor, a volatile stock trading low may simply be undervalued and likely to recover. Markets aren’t perfectly efficient in the short term, but prices generally converge on true value over the long term – and herd mentality often inflates bubbles that leave followers in rough shape.
How to be an investor, not a speculator
Value investing has its own risks, particularly because it doesn’t spread risk widely – even well-run, unnoticed companies can fail or stay ignored, and not every unfashionable industry recovers. The key is to hunt for value outside the trends without being contrarian just for its own sake: there’s a difference between putting money into well-run, well-researched companies and throwing it at every new idea. Value investing is a long-term strategy that takes time, experience and judgment – for most people it’s a useful tool to add to their toolbox, provided they do the research.
General advice warning: This information is general in nature and does not take into account your objectives, financial situation or needs. Investing carries risk and past performance is not a reliable indicator of future results. Seek personalised advice from a licensed financial adviser before making any investment decision.