What is Value Investing?

If you’re learning how to invest as a beginner then you’re also likely being introduced to a variety of new investing terms. Among them are probably a set of investing styles that are making you think, “Wow, I thought I just had to learn how to invest. Now I have to choose an investing style?”

You can mix and match investing styles. Really, the point is to learn about different investing styles just to understand how to analyze potential investments and how to be sure you’re looking at the right metrics at the right time. So, let’s start today by helping you learn about value investing.

Value Investing is an investing style that involves looking for stocks with a low price-to-earnings ratio. Value investors look to purchase stocks when they are undervalued (hence the name), which means the stock has a lower P/E ratio than other companies in the same sector or industry. 

When you buy shares of a company that appears to be undervalued, you can get more return on your investment because it is less expensive than buying shares of another company in the same sector with a higher P/E ratio. Good? Great! However, there’s more to learn. Read on to learn more about value investing and how to use it to your advantage.

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Value Investing Explained

As mentioned above, value investors are looking for, well, value. In most cases, they’re looking for value in a company that is currently being undervalued. This means that they tend to look at the business itself rather than the pure price of the stock. They’re looking for things like a low price to earnings ratio, low price to sales ratio, EBITDA, and a set of other standard behaviors.

Value investing also includes looking at cash flow and dividend yield as well as earnings per share (EPS). The goal of any investor should be to earn money while minimizing risk by knowing what their investments are worth and how much they cost. Value investors aim to achieve this by analyzing the real value of a company based on certain metrics. 

This inherent value doesn’t change just because the price of the stock goes up or down. In short, traders might determine the price of a stock on the market, but they don’t determine the value of the company itself.

If you try to invest using a value investing mindset, you will be looking for stocks that are valuable, whether now or, according to your analysis, in the future. However, more than that, you only want to pick companies that are trading below their value.

What Metrics Do Value Investors Look At?

We’ve mentioned price-to-earnings ratio and a few other basic metrics such as EBITDA. Let’s dig deeper into a few of the top metrics that value investors look at when determining the real value of a stock.

Price-to-Earnings Ratio

Again, the price-to-earnings ratio is used to determine what a company’s stock may be worth based on the earnings per share. This figure can help you decide what it would cost to buy one dollar of that company’s earnings. 

A lower P/E indicates that investors are paying less for a company’s earnings than what the market typically demands. Using this information, you can look at what level the company's stock is being traded at price-to-earnings ratio levels or if it’s overvalued or undervalued.

Price-to-Book Ratio

Price-to-book ratio highlights the difference in price between the market value of a company and its book value. In this context, book value refers to the value of an asset according to its balance sheet account balance. This is absolutely one of the best metrics to look at when value investing.

The P/B ratio will actually show you whether or not a company is over or undervalued. You’ll be looking at the net value in relation to its market capitalization, highlighting the value that most investors are willing to pay per each dollar of the company’s value.

Free Cash Flow

You don’t have to be investing with a value investor mindset to use this metric to your advantage. We recommend looking at free cash flow as a baseline metric for any stock. 

To put it simply, free cash flow is a measure of profitability as it tells you how much money the company has left to pay creditors, shareholders, and interest to investors (like you). As an investor, you can look at this number to figure out how much cash the company will have leftover at the end of each year to pay you your share.

When it comes down to it, free cash flow is a better indicator of a company’s cash dynamics than other metrics such as pure profit.

*Note: This isn’t an exhaustive list of everything you should be looking at when value investing. Download the Wealth Stack app to continue learning more about metrics, terms, and top stocks. It’s free!

Value Investing vs. Momentum Investing vs. Distressed Investing vs. Growth Investing

Those are the four main types of investments. But, which one is correct?

It depends on each individual stock

Our founder Andrew, for example, leans more towards distressed and value investing. While he could say, “I’m a value investor and I’m not going to change that,” that would mean that he could look at Shopify stock and say that until it goes below a certain price, he’s not gonna buy it. 

Okay, cool. However, he might miss out on a big chance to win by not looking at the opportunity from the lens of a growth investor. A growth investor would look into the future and say, “Based on the projected growth in 2025, this is going to be a great investment.”

In the end, they’re all different styles that can make you money. None of them are wrong. However, the key lies in learning how to evaluate each individual stock and which type of investing hat you should wear. Don’t go into a value investment situation with a growth mindset and lose out because you’re not analyzing it in the right way. 

The Best Value Stocks of 2021

We’re not going to give you the answer straight out. First, we want you to learn a bit more about investing for beginners. It’s important that you explore investing terms and other styles of investing before landing on becoming a value investor.

After all, here at Wealth Stack, we care about teaching you how to invest in a way that’s sustainable for long-term growth. It’s why we’ve developed free financial courses. We don’t want to just show you what to invest in right now; we want to show you how to invest in a way that will allow you to build real wealth for the rest of your life.

Ready to get started investing in yourself? Start by downloading the Wealth Stack app

There, you’ll be able to learn from free video courses and top industry pros. Then, implement your learnings by investing. If you ever have doubts, simply ask one of our professional Speakers or use the chat feature to get in touch with our team who can give you answers.