I agree that undiscovered companies that grow their earnings is the best, even better if they are at an inflection point between break even and profitability. Harder said than done, as it requires a lot of digging.
Pure cheapness works better in a basket type of approach, then statistically some rerate or provide good capital returns, while others stagnate, with no investor interest. But sometimes investor interest comes back without even improvements to the business (Alibaba, BATS).
If you want to buy super cheap stuff you need two things.
The first is a DCF which shows it is significantly undervalued, and in which you have reasonable confidence (often you don’t need to physically do the DCF, because it’s obvious and you’re decent enough at maths to know broadly what the DCF would tell you. But you need to understand the idea. Eg a company whose earnings will drop 10% per year at 5x earnings is not cheap, it’s about fair)
The second is management that understand their situation and are dedicated to maximising shareholder returns. Most of the time, this means ploughing cash into buybacks, rather than trying to dig their way out with a big expensive capital investment.
Pure cheapness only works in a systematic portfolio which is diversified. Stockpicker need to add something else.
I would add to your verdict that price (valuation) is still matters and should be at least reasonable because only in this case is your projected growth not already fully priced in.
Yes, these stocks were still cheap on second look / with these earnings increases. If you would have bought them at 10x sales, it would not have worked
This is a a great write up. Thank you for putting his together, I'm only a couple years into the value investing world, and was slowly coming to understand this as time has gone on. Out of about 15-20 stocks I've put in my portfolio, I've definitely had a couple that did not pan out and I didn't fully grasp why. This write-up helps a lot!
I agree that undiscovered companies that grow their earnings is the best, even better if they are at an inflection point between break even and profitability. Harder said than done, as it requires a lot of digging.
Pure cheapness works better in a basket type of approach, then statistically some rerate or provide good capital returns, while others stagnate, with no investor interest. But sometimes investor interest comes back without even improvements to the business (Alibaba, BATS).
If you want to buy super cheap stuff you need two things.
The first is a DCF which shows it is significantly undervalued, and in which you have reasonable confidence (often you don’t need to physically do the DCF, because it’s obvious and you’re decent enough at maths to know broadly what the DCF would tell you. But you need to understand the idea. Eg a company whose earnings will drop 10% per year at 5x earnings is not cheap, it’s about fair)
The second is management that understand their situation and are dedicated to maximising shareholder returns. Most of the time, this means ploughing cash into buybacks, rather than trying to dig their way out with a big expensive capital investment.
This resonates with The Fallacy of Price-Centric Investing : https://rockandturner.substack.com/p/the-fallacy-of-price-centric-investing
Pure cheapness only works in a systematic portfolio which is diversified. Stockpicker need to add something else.
I would add to your verdict that price (valuation) is still matters and should be at least reasonable because only in this case is your projected growth not already fully priced in.
Yes, these stocks were still cheap on second look / with these earnings increases. If you would have bought them at 10x sales, it would not have worked
This was a great article. I upgraded to paid :) Value investing sucks until you find growth. :)
Glad you enjoyed it and welcome as a paid member!
This is a a great write up. Thank you for putting his together, I'm only a couple years into the value investing world, and was slowly coming to understand this as time has gone on. Out of about 15-20 stocks I've put in my portfolio, I've definitely had a couple that did not pan out and I didn't fully grasp why. This write-up helps a lot!
Thanks, glad you enjoyed it!
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