Savvy investors use value investing resources to look for investments—but they look beyond them at the whole picture

Many investors spend a lot of time worrying about the wrong things, while paying little attention to things that have a direct impact on the value of their investments. For instance, at times they may mull over every tidbit of economic information that comes out, and how it differs from its predecessor of a week or a month earlier. They hope to detect a pattern—a sign that the economy is mending and headed for a return to steady growth, or deteriorating and doomed to plunge into a renewed recession.

Some of these same investors scour all available value investing resources for signs of trouble in the hope that they can cut their investment risk by selling some or all of their stocks in volatile times and buy them back when risk is low. This never works well for long. It’s hard to pinpoint market turning points, if only because so many smart people are trying to do the same thing. You’ll rarely if ever sell near the top, nor buy back near the bottom. If you could do that with any consistency, after all, you’d wind up owning a measurable proportion of all the money in the world.

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Value investing resources: What are value stocks?

One of the sweetest and most profitable pleasures of successful investing is to buy high-quality “value stocks,” then hold on to them as mainstream investors recognize the value and push up the share price.

Value stocks are stocks trading lower than their financial fundamentals suggest. They are perceived as undervalued with the potential to rise. Many new tech stocks, for instance, start out as growth stocks and transition into value stocks.

Value stocks have low price-to-earnings and price-to-book ratios—which is why they’re less expensive than growth stocks. Due to this fundamental distinction, a value stock is often traded at a more-affordable price than a growth stock.

For many investors, they see companies that fall into this category as undervalued. These investors are less likely to invest in a growth stock because they feel that a value company’s stock will eventually reach its full potential once it is recognized by the market.

Zeroing in on narrow value investing resources can add unnecessary risk

Value investing—trying to buy assets at bargain prices—has natural appeal for those who grew up in strained economic circumstances.

Value investing fans zero in on financial statistics and ratios as an indicator of what to buy. They like to buy stocks with low ratios of stock price to per-share earnings, cash flow, sales and book value. They assume that if you get enough value in your stock buys, indicated by low numbers for these ratios, your profit is virtually assured in the long run if not in the short. The problem is that while a 9.0 p/e is attractive, the price can still drop enough to cut the p/e down to, say, 7.0. Then too, a low p/e is no guarantee that the “e” or earnings won’t drop. (When the ‘e’ drops, the p/e automatically shoots back up again.)

In fact, a low p/e and other low readings in value-investor ratios may simply mean that well-informed investors are selling the stock and pushing down the “p” or stock price. If so, it probably means they see flaws in the company’s situation or outlook that investors generally are missing.

Virtually all successful investors have some understanding of value investing, many have some knowledge of technical analysis, and most have some knowledge of a variety of other tools and shortcuts. But virtually all Successful Investors take a broad view, and apply everything they know to their investing decisions.

Value investing resources: 6 Characteristics of the best value investments

• Industry prominence if not dominance.
• Manageable debt.
• Freedom from business cycles.
• Ownership of strong brand names and an impeccable reputation.
• 5 to 10 year history of profit.
• 5 to 10 years of dividends.

Even checking off all available value investing resources can still mask hidden risks

Value investments may only be cheap due to hidden problems. We learned that lesson when one of our earliest value investments collapsed. It was cheap in relation to its asset value, but its asset value shrank drastically after it wrote down the value of its inventory.

If you balance and diversify your Successful Investor portfolio as we recommend, it should include value selections that avoid extremes.

If a stock seems like an exceptional bargain in relation to earnings or asset values, it may suffer from hidden risks. The stock can plunge when those problems begin to take their toll.

We pay attention to the big picture and to lesser investment details. But we base our Successful lnvestor investment decisions on facts that will boost a company’s long-term prosperity, since that’s where investors make most of their profits.

Sometimes the price of a value stock can be misleading and the low price is actually associated with a warning sign of the stock’s decline. How have you spotted these types of investments?

What do you look for as a sign of a good value investment?