Value Investing Art: Tips for Undervalued Investments

Written by Daisie Team

Published on 11 July 2023 7 min read

There's an irresistible appeal to making smart investments and watching your wealth grow over time. It's like planting a seed and watching it bloom into a beautiful flower. But investing isn't just about throwing money at any shiny opportunity that comes your way. No, successful investing requires a thoughtful strategy and a practiced eye — specifically, it needs the art of value investing. This blog will guide you through the essentials of value investing and offer practical ways to identify undervalued investments that could yield high returns in the long run.

1. Start with the Basics

Before you can master the art of value investing, it's important to get a firm grasp on the fundamentals. Let's ease into the world of investing by understanding what value investing is, the difference between value and growth investing, and why financial statements are your new best friend in this journey.

Understanding Value Investing

Value investing is all about buying stocks for less than their intrinsic value. Think of it like a summer garage sale where you find a rare vinyl record worth $100 being sold for just $10. That's a bargain! Similarly, value investors look for companies that are undervalued by the market. They believe the market overreacts to good and bad news, resulting in stock price movements that do not correspond with a company's long-term fundamentals. The secret is patience: value investing often requires a longer time horizon as it may take time for the market to recognize the company’s true value.

Difference between Value and Growth Investing

Value investing and growth investing are like two siblings with different personalities. Value investors, like we just discussed, are bargain hunters. They're on a perpetual hunt for undervalued stocks with potential for appreciation. On the other hand, growth investors are more like surfers, riding the wave of companies that are expected to grow at an above-average rate compared to other companies. It's like buying a ticket for a rocket ship before it takes off. But remember, with high reward comes high risk. This is why it's important to know which style suits you best.

Importance of Financial Statements

Financial statements are like health check-up reports for companies. They tell you how well a company is doing, where it’s money is coming from, and where it’s going. They're essential in the art of value investing because they help you identify those hidden gems in the market. Here are the three types of financial statements you should know:

Balance Sheet: It gives you a snapshot of a company's financial condition at a single point in time, including its assets, liabilities, and shareholders' equity.
Income Statement: It tells you about a company's revenues and expenses, and ultimately, its profitability over a period of time.
Cash Flow Statement: It provides a view into a company's cash inflows and outflows over a period of time. It can help you understand how a company manages its cash resources, which is crucial in determining its financial strength.

Understanding these statements can give you a clear picture of a company's financial health and help you make well-informed investment decisions.

2. Know Your Investment Goals

Now that we've covered the basics of the art of value investing, it's time to look inward. What do you want to achieve with your investments? How much risk are you willing to take? When do you need the money? Understanding your investment goals is a crucial step in the value investing journey. Here's how to set SMART goals, identify your risk tolerance, and establish your investment horizon.

Setting SMART Goals

Remember when you learned about SMART goals in school? Well, they aren't just useful for school projects or fitness plans — they're equally important when it comes to investing. SMART stands for Specific, Measurable, Achievable, Relevant, and Time-bound. Let's say you want to buy a house in Portland, Oregon in five years. A SMART investment goal for this would be: "I want to invest $500 a month in value stocks so that I can accumulate $30,000 for a down payment in 5 years."

Identifying Risk Tolerance

Investing is a bit like riding a roller coaster. There are ups and downs, and it can get pretty scary at times. This is where risk tolerance comes in. It's your ability to endure the financial loss in your investments. If losing sleep over a minor dip in your investment value sounds like you, then you have a low-risk tolerance. On the other hand, if you're okay with major swings in your investment value for higher potential returns, then you have a high-risk tolerance. Knowing your risk tolerance can help you choose investments that fit your comfort level.

Establishing Investment Horizon

Your investment horizon is the length of time you plan to hold onto an investment before cashing it out. It's like knowing when the movie will end before walking into the theater. If you're saving for a vacation next year, you have a short-term investment horizon. If you're investing for retirement that's 30 years away, you have a long-term investment horizon. The art of value investing typically requires a long-term investment horizon as it can take time for undervalued stocks to realize their true value.

3. Select the Right Stocks

Okay, you've got your goals set and you understand your risk tolerance and investment horizon. The next step in the art of value investing is to choose the right stocks. This stage involves analyzing company fundamentals, using stock screens, and considering industry trends. Let's dive in.

Analyzing Company Fundamentals

Choosing the right stocks is like choosing the right car. You don't just go by the color or the brand, right? You check the engine, the mileage, and the maintenance history. For stocks, you examine the company's financial health, business model, and competitive advantage. You can do this by reading the company's financial statements, listening to earnings calls, and researching the industry. For instance, if you're considering investing in Coca-Cola, you might look at their revenue growth, debt levels, and how they compare to PepsiCo.

Using Stock Screens

Stock screens are tools that help you filter stocks based on specific criteria. It's like using a metal detector on a beach full of coins. You can set up a screen for low price-to-earnings ratios, high dividend yields, or stable earnings growth, among other things. This can help you identify potential value stocks that align with your investment goals.

Considering Industry Trends

Have you ever noticed how some fashion trends come and go while others stick around? The same thing happens in the stock market. Some industries boom while others bust. Keeping an eye on industry trends can help you spot potential opportunities for value investing. For example, if renewable energy is on the rise, you may want to look for undervalued stocks in that sector.

4. Evaluate the Market

Just like a surfer watching the waves before getting into the water, you too should study the market conditions before diving into investments. This is a vital part of the art of value investing. Here, we'll discuss reading market indicators, understanding economic cycles, and watching interest rates.

Reading Market Indicators

Market indicators are like the weather forecast for investors. They give you an idea of what's happening in the market, whether it's a sunny day or a storm's brewing. Some common indicators include the S&P 500, Dow Jones Industrial Average, and the Nasdaq Composite Index. They can help you gauge the overall health of the market. For example, if these indices are consistently hitting new highs, it might indicate a bullish market.

Understanding Economic Cycles

Did you know that the economy moves in cycles, just like the seasons? There are periods of growth (expansion), followed by slowdowns (recession), then recovery and so on. Understanding these cycles can help you make informed investment decisions. For instance, during a recession, you might find more undervalued stocks as prices generally fall.

Watching Interest Rates

Interest rates are like the temperature of the economy — they can affect how the stock market behaves. When rates are low, borrowing is cheaper, which can boost corporate profits and, in turn, stock prices. Conversely, when rates are high, borrowing costs rise, which can put a damper on corporate profits and stock prices. So, keep an eye on the actions of the Federal Reserve, the central bank of the United States, as it sets the benchmark interest rate.

5. Create an Investment Portfolio

Think of creating an investment portfolio like curating an art collection. Each piece you add should not only be valuable in its own right but also complement the others, adding to the overall worth of the collection. This section will guide you through diversifying your portfolio, balancing risk and reward, and monitoring and adjusting your portfolio. This is where the art of value investing truly comes into play.

Diversifying Your Portfolio

Just like you wouldn't want an art collection made up of only one type of painting, you don't want a portfolio made up of just one type of investment. Diversification is a key strategy in value investing. By spreading your investments across different types of assets (like stocks, bonds, and real estate) and different sectors (like technology, healthcare, or energy), you can reduce the risk of a single bad investment hurting your overall portfolio.

Balancing Risk and Reward

Every investment comes with some level of risk. But with risk can also come reward. The trick is finding the right balance. Too much risk and your portfolio could face significant losses. Too little risk and your returns might not keep up with inflation. The goal in value investing is to find undervalued investments — those that carry less risk than their potential reward would suggest.

Monitoring and Adjusting Your Portfolio

The work of a savvy investor doesn't stop once the portfolio is built. Like a gardener tending to their plants, you need to regularly check on your investments. Are they growing as expected? Do you need to prune some that aren't performing well? Regularly reviewing and adjusting your portfolio helps ensure it stays healthy and continues to grow. That's the art of value investing in action.

If you're looking to dive deeper into the world of value investing in art, don't miss the workshop 'How to Invest in Art' by Ciarra K. Walters. This workshop offers valuable insights and tips on identifying undervalued investments in the art world, helping you make informed decisions and grow your art collection strategically.