Author Topic: Calling all Value Investors...  (Read 6907 times)

yoda34

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Calling all Value Investors...
« on: March 13, 2016, 06:10:43 PM »
Hey everyone. I've debated posting this for awhile, mainly because I don't want to get into / start an argument with the the Efficient Market Folks, but I decided to go ahead.

Ever since I jointed MMM forums, I've been very surprised that value investing isn't a larger component of folks thoughts here. The idea of "buying a dollar for 50 cents" just seems very inherently Mustachian.

Given that I thought that I would describe how I use value investing in my portfolio and give others who follow value investing the opportunity to do the same. I would really really like for this thread to not devolve into a fiasco like a few other threads (Dual Momentum come to mind), so everyone please do your best to keep to the topic. For full disclosure I would like to preface by saying I do not believe Value Investing is for new investors or anyone not comfortable doing fundamental analysis - if this describes you then please do not follow anything you see in this thread. Value Investing, like other forms of investing, can lead to permanent lost of capital. The below is simply my opinion. I would like to hear other opinions about how they use value investing in a real and practical sense in investing their assets.

For me value investing takes two forms, focusing only on value compared to the underlying company (I'll call this Grahamite) or buying a great company with a durable competitive advantage (moats) at an ok price (I'll call this Mungerian).

Between these two, I am much more comfortable with the graham approach. Clearly there are folks out there that can look for "moats" and feel comfortable paying up for that and be successful (Charlie Munger, Buffet, etc), but I am not one of them. To me the value portion represents my margin of safety and getting away from that makes me uneasy. Is the perceived quality of the company real? Is the moat about to collapse? For me, it's simply too hard to reliably identify durable advantages, so I focus on value first and foremost.

There are two approaches to value that I'm most familiar with - absolute and relative. In absolute value something like Net Current Asset Value (NCAV) or Net Working Capital is calculated (very much a Ben Graham approach). DCF analysis can also be used for projected future cash flows.
For me, DCF analysis is too hard. Very small changes in assumptions can vary the calculated value wildly and who can accurately project future cash flows? NCAV and NWC approaches are much easier to find, but there tend to not be very many of these. Once apon a time you could invest in 100s of these and get a pretty good return, now much less so (at the time of this writing there are ~15 Net Working Capital stocks, or stocks trading at 1/3 the value of the cash - debt and some fraction of inventory and accounts receivables) which is far to small a number for me to feel comfortable with given the uh nature of these companies. During the dot com crash and the housing crash this number rose to over 100 and i was able to use this approach for very high returns during those time frames.

Since we don't have a crash every year, that makes absolute value unreliable for me, so the primary way I use value investing is with a relative value approach. Simplifying a bit (I use some pre-screens to take out stocks that indicate balance sheet manipulation or bankruptcy risk) I first screen for value using EBIT / EV. The reason I use EBIT is because it is the value that most lets me compare stocks across sectors. I use EV because it is the value that best represents what I would have to pay to buy an entire company. Basically I'm looking for the cheapest companies that allow me to buy a dollar of EBIT. I take the top decile of these stocks as my first pass.

Only after zoning in on value to I look for quality within the cheap stocks - and sometimes is hard! Stocks are normally this cheap for a reason so there are some scary stories. However, I look for traditional fundamental strengths ROE, ROC, Profit Margin etc. I normally can screen out to about 30-50 stocks using this approach.

Finally, I sit down and read all the 10k's and other statements from these stocks. I have a lot of experience consulting for CXO's and Board Level for large companies so I try and use that when I read the documents. I normally reduce my 30-50 stocks to somewhere between 15-20, that i then invest in those as an equal weighted portfolio.

I do this every quarter but have found with this approach that ~50% of my portfolio ends up being long term gains with ~50% being short term gains.

I am very interested to hear if anyone else uses value investing to this level or if I'm the only one here at MMM that does so.



« Last Edit: March 13, 2016, 06:14:52 PM by yoda34 »

protostache

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Re: Calling all Value Investors...
« Reply #1 on: March 13, 2016, 06:27:25 PM »
Thanks for posting. This is a good start to what will hopefully turn into a good thread.

My method is quite a bit less rigorous, but I only just recently started down the path of something that could be called Value Investing. I skew more toward the Munger method. I've focused on large companies that pay a decent dividend and make a product I can explain in a sentence. To start my portfolio in November I just bought all of them at equal weight, regardless of price. I fully recognize that that was a mistake and so I have a few negative returns, but most are positive.

Now I'm taking a slightly different approach. I've identified the companies that I want to buy and hold forever, so now I wait until they're within 20% of their 52 week low to add more shares. Using this, I've added one new position and added money to three more and all of those lots are positive.

Financial.Velociraptor

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Re: Calling all Value Investors...
« Reply #2 on: March 13, 2016, 06:59:10 PM »
My approach is to front load sequence of returns using written puts and covered calls.  It might result in lower long term performance but I feel the risk adjusted return can't be beat.  That said, I do some detective work on my underlying securities to work with those I feel good about owning for a long time, just in case I get in a position where I can't profitably write options on something I'm holding and also can't exit the position at a favorable p&l.  For financial type companies, I usually go with Price to Book ratio.  For most everything else, I look at Price to Free Cash Flow, net of cash.

I did time in corporate America as an SEC reporting analyst for a multinational oilfield services company.  My experience and that of my peers, is that the net profit numbers (anything below gross margin, really) on most 10-Qs have a LOT of wiggle room.  Free cash flow is much more resistant to manipulation by management.

Other than that, I recommend not buying anything that has a 5 year or more downtrend in sales.  These can be "cheap" by standard metrics and are the textbook "value trap" cases.

yoda34

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Re: Calling all Value Investors...
« Reply #3 on: March 13, 2016, 07:11:00 PM »
I did time in corporate America as an SEC reporting analyst for a multinational oilfield services company.  My experience and that of my peers, is that the net profit numbers (anything below gross margin, really) on most 10-Qs have a LOT of wiggle room.  Free cash flow is much more resistant to manipulation by management.

Totally agree with this. Sales and Price to Sales is a factor I look at consistently just for this reason. Very good point.

Indexer

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Re: Calling all Value Investors...
« Reply #4 on: March 13, 2016, 07:39:51 PM »
So I believe markets are efficient, but I still look for value. Let me explain that contradiction ;).

I feel like individual stocks and the relationships between them tend to be very efficient. If Ford has a higher PE ratio then GM there is something in the fundamentals to back it up. This at least has been my experience when I have tried to find individual value companies. I've read Intelligent Investor, and I've tried using those techniques and then tracked what companies I would have bought over time to see how I would have done. The results are still a work in progress so we will see how that works out. I haven't seen anything too surprising yet though. Most of the companies I looked at in depth had flaws that justified their value. So then it became a question of whether it was a short term problem or a long term problem. Great example:  Chevron. Using Graham's teachings Chevron looked great a couple months ago, but how long will oil prices stay low? This is the sort of thing that has kept me from investing in individual stocks so far.

Now while I think the relationship between companies is fairly efficient I think the overall markets as a whole aren't. I've also read Irrational Exuberance, and I read the Madness of Crowds. I think people(especially professionals) do a good job comparing companies. However, too much money can go into a bull market pushing up values across the board, and in a crisis people oversell. So when CAPE is over 25, PE ratios are over 20, and every other metric is screaming that the market is overvalued I take a step back. Instead of having money go straight into the market I'll let it build in the money market and wait for dips. If I think the 10 year returns for the market are in the 4-5% range(which I'm leaning towards now) then savings accounts that pay 5% start to look at lot more attractive.

Now to temper myself and prevent myself from day trading I live by the rule that money that is already invested stays invested. Only new contributions can build up in cash.

index

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Re: Calling all Value Investors...
« Reply #5 on: March 14, 2016, 10:59:27 AM »
Graham style value investing is hard today because information is so accessible. You will not find stock in a 150M+ market cap company that doesn't have eyes on it with deep pockets. If it is cheap, there is likely a reason it is cheap. The investors that do well with Graham's strategy today are looking at micro cap shares on pink sheets. These 30M, 50M, 100M ect... companies are too small for a fund with 500M to invest to take a meaningful position without buying a controlling interest in the company. For example, to take a 1% position in the smallest exchange traded holding held by VTI (BBLU) the manager of a 500M fund would have to buy 40% of the company. Taking positions in these companies cannot move the needle for a fund manager and are excluded. The problem with micro caps is their information is often not up to date, and you may have to call investor relations to clarify the numbers. This is actually exactly how Graham used to invest; it takes a lot of time and it is not worth it unless you have significant capital.   

Running a EBIT/EV screen on shares listed on a major exchange is fishing in the same pond as the big boys and you are likely to have no better a risk adjusted return than just buying a general small value ETF like VB.

Another option is to look for information the broad investment community misses. Murray Stahl is a fund manager for horizon kinetics who looks for off balance sheet value in places where screens and other managers miss.  He posts some really interesting investment white papers here: http://www.horizonkinetics.com/articles.asp?pageID=6


nobodyspecial

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Re: Calling all Value Investors...
« Reply #6 on: March 15, 2016, 06:54:09 AM »
I never understood how the value model handled external liabilities.
The simple view is that a company can't fall below the value of it's assets, so simply divide the assets by the market cap and you have the minimum possible share price. The price falls below that and the shareholders can simply sell the factories for cash.

Which is great in a business school model but does it work in reality?

You are a small oil drilling company with $X worth of rigs, you can't make money at the current oil price so investors sell all the assets. But everyone else is in the same slump, so the value of the assets has collapsed. Or your company's new pipeline leaks and leaves you with a $Bn cleanup and a $Bn fine.

Even with less dramatic examples. You make a windows phone, or a new small jet, or an electric car and the market moves against it.  For the same reason that your stock price drops to nothing, the value of your assets also drops to nothing.

protostache

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Re: Calling all Value Investors...
« Reply #7 on: March 15, 2016, 08:08:51 AM »
I never understood how the value model handled external liabilities.
The simple view is that a company can't fall below the value of it's assets, so simply divide the assets by the market cap and you have the minimum possible share price. The price falls below that and the shareholders can simply sell the factories for cash.

Which is great in a business school model but does it work in reality?

You are a small oil drilling company with $X worth of rigs, you can't make money at the current oil price so investors sell all the assets. But everyone else is in the same slump, so the value of the assets has collapsed. Or your company's new pipeline leaks and leaves you with a $Bn cleanup and a $Bn fine.

Even with less dramatic examples. You make a windows phone, or a new small jet, or an electric car and the market moves against it.  For the same reason that your stock price drops to nothing, the value of your assets also drops to nothing.

GAAP handles these things in various ways. For your less dramatic examples a company will typically either take an impairment against goodwill or just write the asset off as an extraordinary expense. See, for example, Hershey's recent writedowns in regards to their China investments.

Small oil drilling companies contract with E&P companies to drill wells. Their hard assets don't fluctuate in value based on the price of oil, just with standard depreciation. They don't make money based on the price of oil, rather based on the capex budgets of their E&P partners. Typically shareholders of publicly traded companies can't just up and vote to liquidate the business because nobody but insiders or institutional owners with board seats have majority control (this comes from the hostile takeover wave that happened in the 1980s and the subsequent poison pill provisions that a huge number of companies adopted thereafter).

Your pipeline leak example is not treated as an asset impairment, unless the pipeline itself needs to be dug up and abandoned. It's just an extraordinary expense that may be spread over a number of quarters. It affects bottom line earnings but not much else.
« Last Edit: March 15, 2016, 08:35:36 AM by protostache »

nobodyspecial

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Re: Calling all Value Investors...
« Reply #8 on: March 15, 2016, 09:24:06 AM »
Yes if you are big enough to absorb the shock and move on.But the idea that if a company has a net asset value greater than it's market cap you will always beat the market is tricky if you can have unknown liabilities that are essentially unlimited.

Thinking about it though, the real issue is that the value of a modern company is totally imaginary (or at least intangible!)
The asset value of Apple is obviously not just the cost of the parts it has in stock and the real estate of it's factories - as you would value a C19 manufacturer. But if a real competitor arrived, the value of all that IP, brand recognition and "goodwill" quickly goes to zero - ask Blackberry.


protostache

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Re: Calling all Value Investors...
« Reply #9 on: March 15, 2016, 12:03:20 PM »
Yes if you are big enough to absorb the shock and move on.But the idea that if a company has a net asset value greater than it's market cap you will always beat the market is tricky if you can have unknown liabilities that are essentially unlimited.

Thinking about it though, the real issue is that the value of a modern company is totally imaginary (or at least intangible!)
The asset value of Apple is obviously not just the cost of the parts it has in stock and the real estate of it's factories - as you would value a C19 manufacturer. But if a real competitor arrived, the value of all that IP, brand recognition and "goodwill" quickly goes to zero - ask Blackberry.

A great many companies are valued at or below book value as a matter of course. For example, JP Morgan Chase is exactly their book value right now, and Morningstar says the industry average for financials is 0.9.

"Value investing" is more than just buying at or below book value. You're looking for companies that the market has mispriced, and price to book can be an indicator, but it's at best a top level screener for certain sectors. For a lot of sectors the market prices based on projected revenue, so one way to invest in value is to figure out what you would pay for a company based on their revenue and then wait for the market to meet you. Apple is priced how it is because of the strength of their revenue stream, not their inventory and plant.

protostache

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Re: Calling all Value Investors...
« Reply #10 on: March 15, 2016, 12:38:14 PM »
Individual stock picking and portfolio management is a complicated product of the 20th century and the 21st century has ushered in an easy way of being able to buy entire portfolios of stock universes though low cost ETFs.

That's fine, and there are plenty of threads to discuss ETF and index investing. That's not what this thread is about. Please stay on topic.

yoda34

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Re: Calling all Value Investors...
« Reply #11 on: March 15, 2016, 01:07:33 PM »
Yes if you are big enough to absorb the shock and move on.But the idea that if a company has a net asset value greater than it's market cap you will always beat the market is tricky if you can have unknown liabilities that are essentially unlimited.

Thinking about it though, the real issue is that the value of a modern company is totally imaginary (or at least intangible!)
The asset value of Apple is obviously not just the cost of the parts it has in stock and the real estate of it's factories - as you would value a C19 manufacturer. But if a real competitor arrived, the value of all that IP, brand recognition and "goodwill" quickly goes to zero - ask Blackberry.

This, and your previous point about assets also dropping during a time of crisis, is exactly why I use the Net Working Capital approach. Basically you look for companies that meet the following criteria:

currently trading at 2/3 of cash and cash equivalents + .75 inventory + .5 accounts receivable - total debit and liability

Notice that the inventory and accounts receivables are explicitly marked down (which is a point you made earlier) and the only assets counted are hard cash and equivalents (so brand, image, intangibles - while having value are not counted making this a very conservative effort). You then discount that price per share by 1/3 to find the value you would be willing to invest in a company.

This approach works very well as long as you have say 80-100 of these to invest in (some number will go broke). During 2008 I was able to invest in ~80 such companies and had extremely large gain for that portion of my portfolio.

It doesn't happen that often anymore, but only from time to time.

yoda34

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Re: Calling all Value Investors...
« Reply #12 on: March 15, 2016, 02:42:09 PM »
Graham style value investing is hard today because information is so accessible. You will not find stock in a 150M+ market cap company that doesn't have eyes on it with deep pockets. If it is cheap, there is likely a reason it is cheap.....   

Running a EBIT/EV screen on shares listed on a major exchange is fishing in the same pond as the big boys and you are likely to have no better a risk adjusted return than just buying a general small value ETF like VB.

So I really don't want to turn this into a discussion of the EMT but there are some points here I would agree and disagree with. Small cap stocks are certainly less efficient than large cap stocks. However saying that large cap stocks are more efficient is a long way from saying that they are totally efficient (i.e. that the strong from of EMT is true). It's like the movie Princess Bride, there is a big difference between all dead and mostly dead. Even the creators of EMT have settled somewhere between a weak and semi-strong view of EMT (Fama and French even have a 5 factor model for stock selection, previously the 3 factor).

As an example, when the market suffers a systemic shock with a large downward movement, the correlation of all stocks tends to approach 1, regardless of business, sector,  or underlying fundamentals. Certainly not all of those companies stocks deserve to move in lockstep. Some still have good fundamentals but are punished anyway - the very definition of a value based market anomaly.

Also there is an underlying assumption that Deep Pockets are behaving rationally with regards to price and value - this is not always true. There are a host of limitations on institutional investors. Many are fiduciaries, many have a prudent standard, many (like hedge fund managers) have an extreme short term bias in order to not lose their customer base and deposits.

I'll admit that when many of these stocks are cheap, they are cheap for a reason. The question is are there any stocks that are cheaper than they deserve to be due to a market overreaction. I would argue that this happens quite abit.

Finally, for the risk adjusted return, this is only true if you accept standard deviation as an appropriate measure of risk, which I really don't. The risk should be permanent loss of capital, not how the underlying security moves in relation to others. At least use the Sortino to only look at downside deviation. I think you'll find that stocks that are cheap by whatever measure you want to use (EV / EBIT, Price to Book, Price to Sales, etc) as a group have gains consistently larger than the market indexes over appropriately long time frames.
« Last Edit: March 15, 2016, 02:58:16 PM by yoda34 »

index

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Re: Calling all Value Investors...
« Reply #13 on: March 15, 2016, 03:15:59 PM »
Graham style value investing is hard today because information is so accessible. You will not find stock in a 150M+ market cap company that doesn't have eyes on it with deep pockets. If it is cheap, there is likely a reason it is cheap.....   

Running a EBIT/EV screen on shares listed on a major exchange is fishing in the same pond as the big boys and you are likely to have no better a risk adjusted return than just buying a general small value ETF like VB.

So I really don't want to turn this into a discussion of the EMT but there are some points here I would agree and disagree with. Small cap stocks are certainly less efficient than large cap stocks. However saying that large cap stocks are more efficient is a long way from saying that they are totally efficient (i.e. that the strong from of EMT is true). It's like the movie Princess Bride, there is a big difference between all dead and mostly dead. Even the creators of EMT have settled somewhere between a weak and semi-strong view of EMT (Fama and French even have a 5 factor model for stock selection, previously the 3 factor).

As an example, when the market suffers a systemic shock with a large downward movement, the correlation of all stocks tends to approach 1, regardless of business, sector,  or underlying fundamentals. Certainly not all of those companies stocks deserve to move in lockstep. Some still have good fundamentals but are punished anyway - the very definition of a value based market anomaly.

Also there is an underlying assumption that Deep Pockets are behaving rationally with regards to price and value - this is not always true. There are a host of limitations on institutional investors. Many are fiduciaries, many have a prudent standard, many (like hedge fund managers) have an extreme short term bias in order to not lose their customer base and deposits.

I'll admit that when many of these stocks are cheap, they are cheap for a reason. The question is are there any stocks that are cheaper than they deserve to be due to a market overreaction. I would argue that this happens quite abit.

Finally, for the risk adjusted return, this is only true if you accept standard deviation as an appropriate measure of risk, which I really don't. The risk should be permanent loss of capital, not how the underlying security moves in relation to others. At least use the Sortino to only look at downside deviation. I think you'll find that stocks that are cheap by whatever measure you want to use (EV / EBIT, Price to Book, Price to Sales, etc) as a group have gains consistently larger than the market indexes over appropriately long time frames.

I guess I don't understand what your process is. I see you gave this example which is a Graham formula:

Quote
currently trading at 2/3 of cash and cash equivalents + .75 inventory + .5 accounts receivable - total debit and liability

Then state that doesn't happen much anymore. You also stated you aren't willing to wait for large pull backs to invest, that you quarterly invest in relatively cheap EBIT/EV companies. You gave an example that when the market corrects, stocks approach a correlation of 1. So your EBIT/EV should decline along with the general market. So do you invest on a relative EBIT/EV?

That is essentially magic formula investing right?

If you really want to get into miss pricing have you considered options? You can sell volatility until an actual correction and then get into the Graham formula stocks when the opportunities are presented... Alternatively, you can buy distressed bonds and subtract the market cap from your EV to find more companies available at Graham pricing. 

yoda34

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Re: Calling all Value Investors...
« Reply #14 on: March 15, 2016, 06:49:51 PM »
I guess I don't understand what your process is. I see you gave this example which is a Graham formula:

I tried to explain it in the first post, but I could do a much better job and be clearer. I invest in Net Working Capitals when they appear in sufficient number for me to feel comfortable doing so. Since that's not often, I rely on relative value screens in the meantime (such as EBIT/EV). I used the example of a market downturn simply to illustrate my thought process on why value anomalies exist, even in large cap stocks

That is essentially magic formula investing right?

Not exactly. I use some of the same variables, such as EBIT/EV but my understanding is that MFI combines EBIT/EV and ROC into a combined equally weighted number and then ranks on that. I simply use EBIT/EV only to screen for the total cheapest value decile on the major markets. After I separate the cheapest decile then within that group use traditional values of quality such as ROC, ROE and others to score them. Basically I'm looking for the best of the cheapest, while MFI could ignore cheapness in favor of quality if a stock scored sufficiently high on the ROC metric.

If you really want to get into miss pricing have you considered options? You can sell volatility until an actual correction and then get into the Graham formula stocks when the opportunities are presented... Alternatively, you can buy distressed bonds and subtract the market cap from your EV to find more companies available at Graham pricing.

I actually use alot of options within my portfolio so I totally agree with both those statements. I just wanted to focus this post on value investing in equities specifically - I thought it would potentially add to much complexity to the post to include my options strategy as well.

I guess I just really wanted to see who else here is a value investor and how they actually implemented value in their portfolios. Based on the responses, it looks like there aren't just many value guys around on MMM.
« Last Edit: March 15, 2016, 06:53:36 PM by yoda34 »

Aphalite

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Re: Calling all Value Investors...
« Reply #15 on: March 16, 2016, 08:03:25 AM »
Graham formulas work but it doesn't really suit my personality. I don't like thinking about liquidation value, I like thinking about potential, what companies can build for society, and how to make money from that. My methodology is more Philip Fisher/Charlie Munger than Graham, so I don't know if you can call it value investing if you're a heavy favorite of Graham, however, I think ALL investing is value investing. You're giving up purchasing power today for more purchasing power tomorrow

This has put me into companies like Disney, Skechers, and Sprouts, which are growing earnings quickly while also being a little underpriced relative to its growth rate. I also have sizable positions in cyclicals, some which have worked out so far and some haven't (the oil/gas majors investments have done okay, smaller positions in E&P w/ hedge books like MEMP (down 90% at one point, now back up to 70% loss) and service companies like URI haven't, chicken investment SAFM is doing great, tho I'm looking to get out soon). I don't plan on selling any of my non-cyclical holdings. Mostly, I would like to buy and then never sell because then it reduces decision making down to one, when to buy. I figure it's harder to be right twice than once.

I think it's just up to your personality, but quality (or cost leader) seems to be consistently undervalued. The hard thing is thinking about how quality will translate into the future. Here's a good example of some hindsight bias: http://www.fool.com/investing/general/2013/01/15/in-hindsight-how-much-should-you-have-paid-for-tha.aspx - Coke would have been worth 92 PE in 1972. When you get yourself into something that is scalable and has wide reaching appeal, even 30 PE seems cheap. So I spend my day thinking about what types of businesses reflect this. It's a form of value investing but definitely not what most people think of at first

dungoofed

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Re: Calling all Value Investors...
« Reply #16 on: March 18, 2016, 04:49:42 PM »
I guess I just really wanted to see who else here is a value investor and how they actually implemented value in their portfolios. Based on the responses, it looks like there aren't just many value guys around on MMM.

I was using Graham Formula, MFI and a couple of other value screens to look for investing ideas on the ASX. Graham Formula hasn't given a non-microcap suggestion for at least four years. It has been slim pickings with the other screens as well, and you tend to find yourself lowering your criteria in order to "find" value.

I think you'll find there are quite a few people following this thread but not replying because either their case is not applicable (eg me investing on ASX with all its peculiarities) or because you've basically stated a summary of the state-of-the-market in regards to value investing and there's nothing extra to add. The stocks on your radar are going to be similar to the stocks on everyone else's radar.

EarlyStart

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Re: Calling all Value Investors...
« Reply #17 on: March 20, 2016, 03:39:35 PM »
I won't paint myself into the "value investing" camp, since that means different things to pretty much everyone.


I'll buy an individual stock if I can model the cash flows out 10 years and I like what I see qualitatively. I really can't imagine using basic multiples like PE (trailing or forward 1 year), P/B, EV/EBITDA, etc. 0% of the value of an asset is determined by earnings, cash flow, etc. in the past. A very small portion of the value is determined by the next single year. If I see what look like "low" multiples like this, I have to start with the assumption that weak future cash flow growth is being priced in. If you find evidence to the contrary, fine.

Usually I can't model the cash flows of a company so I just throw out the idea. I can model bank stocks pretty well with discounted FCFE, so I tend to look at those. That's my circle of competence. That's the sector I work in, that I've studied for years.

To me, using basic multiples with inputs one year back and/or one year forward is asking get slaughtered, but if it works for you that's all that matters.



yoda34

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Re: Calling all Value Investors...
« Reply #18 on: March 21, 2016, 06:36:03 PM »
I think you'll find there are quite a few people following this thread but not replying because either their case is not applicable (eg me investing on ASX with all its peculiarities) or because you've basically stated a summary of the state-of-the-market in regards to value investing and there's nothing extra to add. The stocks on your radar are going to be similar to the stocks on everyone else's radar.

Well that's good to know :). I wasn't trying to state a summary, just trying let folks know what I do in my current portfolio. I agree that many of these approaches could probably find the same stocks


I won't paint myself into the "value investing" camp, since that means different things to pretty much everyone.


I'll buy an individual stock if I can model the cash flows out 10 years and I like what I see qualitatively. I really can't imagine using basic multiples like PE (trailing or forward 1 year), P/B, EV/EBITDA, etc. 0% of the value of an asset is determined by earnings, cash flow, etc. in the past. A very small portion of the value is determined by the next single year. If I see what look like "low" multiples like this, I have to start with the assumption that weak future cash flow growth is being priced in. If you find evidence to the contrary, fine.

Usually I can't model the cash flows of a company so I just throw out the idea. I can model bank stocks pretty well with discounted FCFE, so I tend to look at those. That's my circle of competence. That's the sector I work in, that I've studied for years.

To me, using basic multiples with inputs one year back and/or one year forward is asking get slaughtered, but if it works for you that's all that matters.

I totally 100% agree, with all my heart, that value is based on the future cash flow. The problem I have is predicting those future cash flows is, at least for me, really really hard. I've found that even small changes in my assumptions can lead to wildly different projected cash flows and therefore values. If you can do it successfully, then more power to you! I just know that is something that I could not do, at least in a long-term reliable fashion.

The reason, I believe, that many of the simple value metrics work is that barring an unexpected type of event, business cycles tend to be longer than 1- 2 years, or put another way I wouldn't expect a stock with a high ROC for instance to mean revert during my expected holding time. If nothing drastically impacts the earning power of the company I can reasonably expect the cash flows, ROC, ROE, etc to about the same at least for the next 12 - 18 months.

Of course if something drastic happens, then all bets are off, but i think that's a problem regardless of approach. For instance if you were projecting 10 year cash flows for financial institutions in the year 2000 you would have to be extremely good to have that be anywhere close to reality given the two crisis we had during that stretch (2002, 2008).

I believe that while expectations of lower earning, or lower ROC or whatever are indeed priced in, the market often overreacts creating value anomalies. It's the only reason I can think of for stocks that appear cheap on value metrics to consistently outperform their peer groups.


Rustycage

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Re: Calling all Value Investors...
« Reply #19 on: March 22, 2016, 08:15:36 PM »
Quote
I totally 100% agree, with all my heart, that value is based on the future cash flow. The problem I have is predicting those future cash flows is, at least for me, really really hard. I've found that even small changes in my assumptions can lead to wildly different projected cash flows and therefore values. If you can do it successfully, then more power to you! I just know that is something that I could not do, at least in a long-term reliable fashion.

I think IS the hard bit. Part of the reason that "margin of safety" is always beaten into the heads of value investors. I remember reading somewhere that even Buffett and Munger come up with different IV numbers for the same company.

mrpercentage

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Re: Calling all Value Investors...
« Reply #20 on: March 23, 2016, 01:58:16 AM »
My approach has is and probably always will be an evolution in process. To avoid writing an incredibly long rant that leaves everyone confused I will summarize to my best ability.

On long positions with sizable capital being used:

I have spent a good amount of time digging through 10-Q's to discover that the Capital IQ summary was close enough. Thats what I use.

Lets side step a bunch of details and dumb this down

(1) Warren Buffett suggests buying a stock that you like and holding it for 20 years (2) There is no way to tell how a company will do for 20 years. (3) this must mean Warren Buffett advocates long term gambling on companies you believe in (4) Warren Buffett likes drinking Coke and probably banks at WellsFargo (5) There is much evidence to support holding for the long term is more effective than trading for most people (6) people have a tendency to nuke things and make simple things complicated (7) simple things do not break as easy as complicated things (8) therefore keep it simple stupid

Keeping it simple

Make a list of companies you would like to own. Buy them when they are hated and stop buying when they are loved. Make sure to maintain some diversification. Try to stick to dividend paying stocks. There is a strong correlation of earnings being more secure in dividend paying stocks-- they also have a better history of taking care of their share holders. My only exception to this is BRK.B

Understand that time spent in the market holding quality companies is the surest way to big gains. Understand that most managers are short sighted by focusing on this or the next year. Consider the potential. Patiently wait while people call you a fool on TV, in the journal, and in the fancy pants analysts blogs. Your wait may be shorter than you think and you might be able to throw 15%, 25%, and 35% gains into such smarty-pants faces in less than 6 months if you are base enough to do it. Sometimes I am. Im working on it.

I think much more consideration will go into buying a company you intend to hold for life. I think this deeper consideration is what is needed. Like a test you should stick to your original answer unless proven wrong later because the original answer is probably the right answer.

In the turtle trading rules:
T here is another old saying: “you can never go broke taking a profit.” The
Turtles would not agree with this statement. Getting out of winning positions
too early, i.e. “taking a profit” too early, is one of the most common mistakes
when trading trend following systems.
Prices never go straight up; therefore it is necessary to let the prices go against you if
you are going to ride a trend. Early in a trend this can often mean watching decent
profits of 10% to 30% fade to a small loss. In the middle of a trend, it might mean
watching a profit of 80% to 100% drop by 30% to 40%. The temptation to lighten the
position to “lock in profits” can be very great.
The Turtles knew that where you took a profit could make the difference between
winning and losing.
It is the same for investors.

My final parting thought:

"Mandrake when they realize there is no possibility of recalling the wing.. they will realize there is only one course of action... total commitment."-- Dr Strangelove

now pull the trigger
https://youtu.be/DUAK7t3Lf8s?t=3m10s

FIRE4Science

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Re: Calling all Value Investors...
« Reply #21 on: March 23, 2016, 11:09:24 AM »
Value investing is quite popular. Just its against the grain in these forums, because it's not of the mindset of "Vanguard S&P500 Index funds only, inside a 401(k) account."