Wealth creation through value investing
Wealth creation through carefully investing of your hard-earned money is essential for financially securing your future. A lot of people are lured by promises of quick money through the share market. They buy securities at a lower price with an intention to sell them at a higher price without actually knowing whether the stock will go up or not. This is called speculating and not investing.
Value investing is purchasing securities after a deep and thorough research with the motive of holding them for a (very) long time. Doesn’t sound interesting? Well, it also involves continuous dividends and profits on the increasing value of the stock in the market. Sounds better now, doesn’t it?
Through value investing, quality stocks are bought at a price lower than their intrinsic values. An intrinsic value is determined by looking at the financial statements of the company like balance sheets, income statement, cash flow statements, etc., without considering external market factors like the GDP or the economy of a country.
How to create wealth through value investing?
Before you enter the world of value investing, you must understand that one of the most important things about this process is that it is not a process of buying a “cheap” stock. On the contrary, value investing is the procedure of buying stocks of a quality company whose prices have declined due to some unavoidable factors and are likely to rise (as the company will definitely cope with the problem in the future) again.
The principles of value investing include:
- Do your research
Before buying the stocks of any company, you should do a thorough research about the company’s:
- Long and short-term earnings
- Long-term plans
- Business model
- Financial structure
As value investing focuses on the company paying continuous dividends, it will only be possible for the latter to do so if it is earning enough profits and is financially sound. All this can be made clear only through thorough research.
Successful investors hold various types of investments in their portfolios. Investing all of your money in one place can lead to a huge loss if the company tanks. Diversification can help you lower the risk of losses. If one or more of your investments goes belly up, you won't lose all of your money; moreover, the profit from another investment will cover the loss. To put it simply, don’t put all your eggs in one basket.
- Safety margin
To further avoid risk in value investing, you should always buy stocks with a margin of safety. The margin of safety is the difference between the intrinsic value of the stock and the price you pay for it. For example, if the intrinsic value of the stock is Rs100 and it is quoting is at Rs80, the margin of safety is 20%. The higher the margin of safety, lower is the risk and higher are the potential profits.
- Be patient
As value investing requires you to hold the securities for a long period of time, patience is a must. The market is dynamic in nature; it could be doing well in one instance, while in the next it would be falling. In both cases, you will be tempted to sell the securities to make a profit and avoid future losses, respectively. You need to control these temptations remembering that value investing is the ultimate money-maker. As the market is expanding with new innovations and technology, keeping a security for a long period of time can earn you significant profits.
How to begin?
There are two types of investors: defensive and enterprising.
A defensive investor is one who…
- …is not very active in the market.
- …looks to reduce risk as often as possible.
- …takes a more passive approach to managing their portfolio.
- …diversifies only in mature, blue-chip stocks or high-grade bonds, both of which are low-risk in nature.
An enterprising investor, on the other hand, is one who…
- …is quite active in the market.
- …is willing to take risks by investing in newer companies.
- …diversified, but places heavier weight on stocks.
Once you understand the nature of value investing and the nature of your contribution towards it, you can start picking up stocks to invest. It is important to note that the valuable advice of a stock broker will go a long way in reducing losses and increasing your potential profits.
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