What is 'value' investing?
So-called 'value' investing involves buying when the market share price of a company is substantially lower than its intrinsic value per share (that is, more-or-less, the value today of expected future dividends). Return is expected from closing the gap between the market value (i.e. current share price) and the intrinsic value. And value investments will often provide a dividend return.
The reasons for a market value/ intrinsic value mismatch are varied, but include:
- short term events temporarily impacting the share-price;
- market participants not appropriately considering the underlying performance of a company (as had happened for Pacific Brands in recent times); or
- the market not assessing longer term dynamics appropriately (as we view has been the case with QBE's exposure to global interest rates and currencies).
'P/E' is the oft-quoted metric as a measure of value. P/E is the price an investor pays for $1 of today's earnings (i.e. profits) and, implicitly, the change (ideally growth) in those earnings in the future. P/E can be either 'historical' i.e. earnings from the financial year just completed, or 'prospective' i.e. earnings estimates for the financial current year. Although P/E is an easy and simple metric to refer to in the context of value, it is important to consider other valuation measures as well.
'Growth' investing contrasts to 'value' investing. Under the growth style, investment is made in companies that are expected to have meaningful earnings growth - certainly faster than average. As a company grows its earnings it becomes more valuable, which in turn is expected to translate to an increased share price. (Growth investments generally do not provide dividend returns as high as value investments, as more earnings are re-invested in the growing business.)
But First Samuel is not a pure 'value' investor, for two main reasons.