Q&A: “Buy Low, Sell High:” Does this advice apply to value investing?
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One of the most common and standard pieces of investing advice is “buy low, sell high.” Does that advice even still apply when you're taking a value investing approach as opposed to a different investment methodology, or does value investing add different nuance to that advice? How would you address that kind of basic investment advice from a value investing perspective?
“Buy low and sell high” is not a bad place to start, but I don’t know that there are any hard and fast rules when it comes to investing. There are times when it might make sense to buy even when the market price has gone up, because maybe the intrinsic value of the asset has gone up more than the price.
What value investing to me means is figuring out what a business is worth and paying a lot less for it. Ben Graham calls that the “margin of safety,” or the margin between a lower market price and a higher intrinsic value. Within that, I want a business that performs well and whose value can be expected to go up over time.
That also means I can be wrong about what it's worth today and still be protected by the fact that the value piece goes up over time. Let’s say I think a stock is worth $12, it’s actually worth $10, and the market price is at $9. That means I’m overvaluing it but still getting it at a 10% discount ($9 versus is actually worth of $10). Then, if the value growth piece is there, that $10 will grow to $12, $13, $14, $15 over time.
Let’s use a more concrete example. Let's say I looked at XYZ Company two years ago. It was facing two really well-capitalized competitors. Now, both competitors have left, while XYZ Company is still around. Its market price has gone up by 25%, but I might think the value has gone up a lot more. Its major competition is gone, it has proven an ability to find success in the market, etc. The risk has gone down. I would say that situation might have more merit today than it did two years ago, even though the price went up.
That said, I'm not immune to companies that are out of favor and are at the 52‑week low list. It's something I look at. I typically like to find companies that have sold off but are still fundamentally sound. Maybe they were sold off because of a short‑term concern when I know long‑term, the company is going to do very, very good things.
If you can find that situation where maybe the market just got a little too focused on today, and as a result, has overreacted to something – earnings, near-term guidance, something like that. Maybe I talk to management and learn, “Yeah, we're going to miss our number this quarter, but here's the deal, our revenues are better than we expected. We feel like there's an opportunity to take R&D from what has traditionally been maybe 7% or 8% of sales and we're going to bump that up to 10%. We think we have some things that are important that are going to create value for this company."
But even then, I wouldn’t buy based on a hard-and-fast rule of “buy low, sell high.” I’d be buying because there are clear indicators that market price is low relative to intrinsic value and that growth in value is likely. There are other companies on the 52-week low list that deserve to be there because they’re broken. They’re melting ice cubes. They’re cheap, but they’re only going to get cheaper.
Most often, it’s not immediately clear which situation is which, and it requires real research to answer the question, "Oh, jeez. What's happening here?" Why are they in this really great industry? Why have they emerged as the leader? What's happening? Then you look at price, and you say, "Yeah, you know what? I'm not really crazy about the price," but you track it. You track it as if you own it because one day if you track enough of these companies eventually, the market will overreact, and if you've done all your due diligence, the ability to react quickly is there.