Explained: What is value investing?

Value investing involves purchasing fundamentally sound companies that are trading at a discount to their intrinsic value. “A stock is labelled as a value proposition when its current valuation is below historical averages,” says Jyoti Prakash, managing partner–equity and PMS at AlphaaMoney.

The intrinsic value of a stock is measured based on a combination of fundamental factors and financial analysis, including an examination of a company's financial performance, revenue, earnings, and cash flow.

Generally, value investing is considered to be a rewarding style of investing, Prakash adds. It requires patience as value investing takes into account the company's brand, business model, target market, and competitive edge. Some metrics used to value a company's stock include the price-to-book ratio, price-to-earnings ratio, and free cash flow.

Hence, one must seek out strategies and managers that have experienced multiple market cycles and have consistently applied a value style of investing throughout these cycles. Investors should examine the current and historical portfolio of the strategy to determine if it has consistently employed a value approach. Tools like Stylebox can help in evaluating the strategy's value orientation.

How it works

Value investing is, in a way, perceived as the opposite of growth investing, Prakash says. Suppose you want to buy a house in a neighbourhood where you have seen two identical houses, one valued at ₹50 lakh and the other at ₹60 lakh. The reason the first house is cheaper is that the owner wants to sell it quickly. While both houses have the same value, you would prefer to buy the first one priced at ₹50 lakh.

Stocks work similarly. Sometimes, the market prices of a good company’s shares are lower than their true value. A value investor recognises these opportunities and purchases at a “discount,” waiting for the market to correct the price.

However, buying such stocks is a complex process and won't seem as easy as it appears. While there are tools to analyse such trends, Kaustubh Belapurkar, director-manager of research at Morningstar Investment Research India, says, “Investors should pay attention to the strength of the investment team, its continuity and the consistency of the investment process that is applied to manage a fund.”

Performance results are driven by a strong investment team and process. It is also essential to recognise that every strategy will experience periods of relative underperformance depending on the phase of the market cycle. “For instance, value strategies struggled during the 2019-20 period. Similarly, growth strategies relatively underperformed in 2022-24. A consistently managed strategy will continue to operate similarly despite style headwinds,” explains Belapurkar.

Prakash, too, has a word of caution. “[Stocks] Judged only on the basis of valuations can result in the selection of names that are value traps. This has led portfolio managers to opt for GARP (Growth At Reasonable Price), which is a useful combination of growth and value,” he says.

In short, different styles shine in different years. What matters is having a strong team, a good process, and the patience to stick to the strategy, even when it is temporarily out of favour.