Value investing with a strong contrarian bend defines Pendragon Capital Management. That’s because we believe strongly in the value of not timing the market, having a long-term investing perspective, and being disciplined about financial decisions.
From personal experience, we see this combination as the most effective approach for building wealth over time. It’s the best way to deal with the constant fluctuation of markets and the noise of financial news.
What is Value Investing?
Value investing, pioneered by Benjamin Graham, is a strategy that involves buying stocks that are undervalued relative to their intrinsic worth.
This approach emphasizes the importance of analyzing a company’s fundamentals, such as its earnings, cash flow, and assets, to determine its true value. By purchasing stocks when they are trading below their intrinsic value, investors have the opportunity to generate significant returns when the market eventually recognizes the true worth of the company.
Famous Value Investors
In addition to Benjamin Graham, the most famous value investing practitioners include Warren Buffett and Charlie Munger.
According to Investopedia, here are five lesser-known value investors worth learning about:
Value Investing vs. Other Investment Approaches
Value investing focuses on the long term.
Rather than be swayed by short-term market fluctuations or speculative trends, value investors maintain a disciplined approach, patiently waiting for the market to reflect the intrinsic value of their investments. This long-term perspective helps investors avoid the pitfalls of emotional decision-making, such as panic selling during market downturns or chasing after hot stocks based on hype.
Other investing strategies include:
- Growth investing
- Momentum investing
- Dollar-Cost averaging
Value investing provides a margin of safety for investors. By purchasing stocks at a discount to their intrinsic value, investors have a cushion against downside risk. Even if the market temporarily undervalues a stock or if the company faces challenges in the short term, the intrinsic value of the business provides a buffer against significant losses. This margin of safety is crucial for preserving capital and reducing the impact of market volatility on investment portfolios.
What criteria do value investors use to identify undervalued stocks?
When evaluating stocks, you’ll want to look at the following criteria:
- price-to-earnings ratios,
- price-to-book ratios,
- dividend yields,
- and other fundamental factors.
How do you determine the intrinsic value of a stock?
Calculating intrinsic value is a core aspect of value investing.
Investors want to understand the methodologies and techniques used to estimate a stock’s true worth, whether it’s through discounted cash flow analysis, earnings multiples, or other valuation models.
What are the risks associated with value investing?
While value investing offers potential rewards, it’s essential to understand the risks involved as you would with any kind of investing. In this case, risks include:
- Value traps (stocks that appear cheap but continue to decline),
- Prolonged periods of underperformance,
- Potential for value stocks to remain undervalued indefinitely.
How long does it typically take for value investing strategies to pay off?
Value investing is known for its long-term focus, but investors may wonder about the expected time horizon for seeing returns. They might ask about the typical holding period for value investments and when they can expect to realize gains. Is the answer – it depends?
Is value investing still relevant in today’s market?
Yes! That’s why Pendragon Capital Management refers to Modern Value Investing.
7 Questions Related to Value Investing
How do you manage your emotions during periods of underperformance?
As you read above, value investing has a long-term focus. That, in turn, means not micromanaging your portfolio based on short-term market fluctuations. Stay true to your goals, and you will be better able to manage emotions such as fear and frustration, as well as ebullience that might lead you to decisions you’ll regret.
What role does diversification play in a value investing portfolio?
A value investing strategy does not mean ignoring diversification. Diversifying across industries, sectors, and asset classes can help mitigate specific risks associated with individual stocks and enhance overall portfolio resilience.
How important is staying informed about changes in the intrinsic value of your investments?
Value investing requires ongoing monitoring of the fundamental factors that influence the intrinsic value of stocks. That means that you’ll want to stay informed about company developments, industry trends, and macroeconomic factors that could impact your investments over time.
What is your exit strategy for value investments that have reached their intrinsic value?
Having an exit strategy is an important part of being a value investor.
As important as it is to identify undervalued stocks, you also want to have a plan for selling specific investments once they have reached their intrinsic value. Having a clear exit strategy can help investors lock in profits and reallocate capital to new opportunities.
How important are qualitative factors to your value investing analysis?
Quantitative metrics are essential for evaluating the financial health of a company and determining intrinsic value.
That said, you also want to consider qualitative factors such as management quality, competitive advantages, and industry dynamics in your investment decisions. That includes understanding the competitive marketplace and how sustainable advantages are.
What are the tax implications of value investing strategies?
All investing strategies have tax implications, such as capital gains taxes on realized profits or the impact of dividend income. You’ll want to understand these so you can optimize your after-tax returns and minimize tax liabilities.
>> See Top Tax Tips for Investors
How to adapt your value investing approach to changing market conditions?
Market dynamics constantly evolve, and value investing strategies may need to be adjusted accordingly. At Pendragon Capital Management, we recommend a yearly review to adjust goals.
>> See 9 Financial Resolutions for the New Year
Becoming a True Contrarian Investor
In addition to value investing, being a contrarian investor can yield substantial benefits.
Contrarianism involves going against the crowd and investing in assets that are unpopular or out of favor with the market. This approach is based on the belief that markets are often driven by emotions and herd mentality, leading to mispricings and opportunities for astute investors.
Contrarian investors capitalize on market inefficiencies by buying when others are selling and selling when others are buying. By taking a contrarian stance, investors can potentially buy assets at discounted prices during periods of pessimism and sell them at inflated prices during periods of optimism. This contrarian mindset allows investors to profit from market cycles and exploit opportunities that others may overlook.
Furthermore, being a contrarian investor can provide psychological benefits. While it may be uncomfortable to swim against the tide of popular opinion, contrarian investors develop the confidence to trust their analysis and convictions. Instead of succumbing to fear or greed, contrarians maintain a rational and independent mindset, allowing them to make well-informed investment decisions based on their research and judgment.
>> See The Lonely Life of a Contrarian Investor
10 Traits of a Contrarian Investor
A contrarian investor is someone who deliberately takes positions in financial markets that are contrary to prevailing market sentiment or popular opinion. Contrarians believe that markets are often driven by emotions and herd behavior, leading to mispricings and opportunities for profit.
1 – Independent Thinking:
Contrarian investors are independent thinkers who are not swayed by the consensus or prevailing market trends. They have the confidence to form their own opinions based on their analysis of fundamental factors and market dynamics, rather than simply following the crowd.
2 – Ability to Ignore Market Noise:
Contrarians can tune out the noise of financial media and ignore short-term fluctuations in market prices. They understand that market sentiment can be irrational and temporary, and they focus on the long-term fundamentals of their investments rather than short-term market movements.
3 – Courage to Go Against the Crowd:
Contrarian investors courageously go against the crowd and take positions that may be unpopular or contrarian. They are willing to buy when others are selling and sell when others are buying, even if it means going against conventional wisdom or facing criticism from others.
4 – Patience and Discipline:
Contrarian investing requires patience and discipline. Why? Because contrarians understand that their investment theses may take time to play out, and they are willing to wait for the market to recognize the value of their investments. They do not succumb to the pressure of short-term performance or the fear of missing out on short-term gains.
5 – Long-Term Perspective:
Contrarian investors typically have a long-term perspective on investing. They are not concerned with short-term fluctuations in market prices, but rather focus on the underlying value of their investments and the potential for long-term growth and value creation.
6 – Contrarian Mindset:
Contrarian investors have a contrarian mindset: they actively seek out opportunities that are out of favor or misunderstood by the market. They look for assets that are undervalued or overlooked, believing that these assets have the potential for significant upside when market sentiment eventually turns in their favor.
7 – Risk Management:
Contrarian investors are adept at managing risk. They understand that contrarian investing carries inherent risks, and they take steps to mitigate these risks through diversification, thorough research, and careful analysis of potential investments.
8 – Resilience and Emotional Control:
Contrarian investing can be emotionally challenging, especially during periods of underperformance or when facing criticism from others. Contrarian investors have the resilience and emotional control to stay committed to their investment thesis, even in the face of adversity.
9 – Continuous Learning and Adaptation:
Contrarian investors are lifelong learners who continuously seek to improve their investment skills and adapt to changing market conditions. They are open-minded and willing to learn from both their successes and failures, refining their approach over time.
10 – Focus on Value:
Despite their contrarian stance, contrarian investors ultimately focus on value. They are not contrarian for the sake of being contrarian, but rather because they believe that the market is not always efficient in pricing assets accurately. They seek to identify undervalued opportunities that offer the potential for attractive returns over the long term.
Overall, contrarian investing requires a unique mindset, characterized by independent thinking, patience, discipline, and a focus on long-term value. Contrarian investors are willing to swim against the tide of popular opinion in pursuit of superior investment returns and financial success.
Doesn’t it sound like contrarian investors are born value investors?
Becoming a Contrarian Value Investor
Both value investing and contrarianism require discipline, patience, and a thorough understanding of market dynamics. This, in turn, calls for careful analysis of individual stocks and market trends, as well as the ability to withstand short-term volatility and uncertainty.
Both also offer numerous benefits for investors looking to build wealth over the long term. By focusing on the intrinsic value of assets and maintaining a contrarian mindset, you can potentially achieve superior returns while mitigating risks associated with market fluctuations and herd mentality.
While these strategies may not always produce immediate results, their timeless principles have proven to be effective in navigating the complexities of the financial markets and achieving long-term investment success.
If you have questions, don’t hesitate to reach out.
Thanks for reading.
Image Credit: Values and Textures, John J. Reiss, American (Milwaukee, Wisconsin), drawing, 1944-1946, Harvard Art Museums/Busch-Reisinger Museum, Gift of Josef Albers
Note: This blog article is intended for general informational purposes only. Nothing in it should be construed as, and may not be used in connection with, an offer to sell, or a solicitation of an offer to buy or hold, an interest in any security or investment product. Investing involves risk.