It has achieved widespread popularity as the best way to purchase stocks and buy into businesses, and with the fortunes of Warren Buffett to vouch for it, value investing is hard to overlook.
To define this paradigm, we look to the basics originally set forth by Ben Graham and David Dodd of Columbia University. The idea is to find under-priced securities through careful analysis, and purchase them at steep discounts. The companies chosen should have high dividends, and either low price to earnings or ‘price to book’ ratios.
In layman’s terms, this means looking for companies which have been overlooked but appear to be generating excellent cash flow. These businesses are usually trading below market value, and may have gone under the radar for various reasons. Buffett took this concept and stopped looking for any undervalued company.
The sound investing methods used to build the Berkshire Hathaway fund involved searching for well run companies with easy to understand products which filled a fundamental need in society. An outstanding company with a fairly timeless product would deliver consistently over time, and the majority of Berkshire Hathaway holdings have done so admirably.
Several other value investors have followed the path of Warren Buffett, including Max Heine and his apprentice of sorts, Michael Price. Heine’s Mutual Shares saw great success until it was sold in 1996. Other value managers include Martin J. Whitman, who simplified his approach to buying securities, which is now called the ‘financial integrity’ method. His focus is on buying excellent companies at a proper discount.
One of the most impressive track records sits with the now closed Gotham Capital fund. Run by Joel Greenblatt, it ran an average 50% return on investor money for ten straight years. Mr. Greenblatt typically finds his values as companies change hands or restructure.
Although it is difficult to predict when prices will begin to rise and when they will fall, a steady approach to finding the best stocks to buy, and thorough analysis of the company financials, will prevail in the long run.
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