The objective is to buy stocks that outperform their peer group.

Returns from equity markets could be lacklustre this year as the broader indices remain range bound and there are significant stock-specific corrections. In such a scenario, value investing can work better where fund managers identify stocks which are trading at significant discounts to their intrinsic value.

Value funds buy stocks when prices are low and the funds can generate higher returns when

the market discovers the value of these stocks. The rationale behind the strategy is the difference between price and value. One must stay invested for a long time in these funds as the price of value stocks may remain depressed for a long time till the market discovers their value.

Correction phase

In a bull market phase, many stocks and even a few sectors witness valuation range expansion and the traditional valuation parameters get stretched and momentum shifts to growth stocks in such market phases. Experts say as we are currently witnessing correction in the markets, value investing will be ideal.

Rohan Mehta, founder and CEO, Turtle Wealth, says at this point of the market, where with every one 52-week high stock there are nine 52-week low stocks with 18 months of consolidation, value migration is one of the best opportunities to create wealth in the next five years in the markets.

Similarly, Harish Menon, co-founder and head of investments and product research, House of Alpha, says value investing works well during time corrections because the focus shifts back to core business performance and earnings of the companies. “Stocks with strong fundamentals are often available at reasonable valuations and offer value buying opportunities. Value investors require patience because it often requires a full market cycle of a few years to realise gains in this strategy,” he says.

Identifying value stocks

In value investing, fund managers focus on the core business fundamentals of stocks and evaluate their intrinsic value based on models such as discounted cash flow and enterprise value. This intrinsic value of the stock becomes their anchor to compare its market price. The objective of the fund managers is to invest in companies that outperform their peer group and the broader market over the long term.

Anil Rego, founder, Right Horizons PMS, says fund managers look for sectors with tailwinds and businesses that are momentarily impacted by news that have a short-term impact in nature and study the firm’s financial performance, business model, and other fundamental factors that will enable them to calculate the intrinsic value and compare it with the price the stock is trading at.

“Some of the metrics that are looked at are price-to-earnings ratio, price-to-book ratio, debt-to-equity, return on net worth, and PEG ratio and then compared with the industry standards for a relative positioning as well,” he says.

Chances of value investing going awry

Investors must note that value investing is not investing in discounted stocks that are compromised on fundamentals. It is investing in businesses that are trading at a discount despite solid fundamentals due to being undiscovered or impacted momentarily. Figuring out such stocks requires studying the company’s business model, and analysing the financial performance, moats and competitive positioning.

“The risk is when the fundamentals of the company weaken but that can be diversified by spreading investments in multiple businesses that are trading at a discount. Generally, the consensus is that value investing is favourable during bear markets or periods of recession since value outperforms growth stocks and vice versa,” says Rego.

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In value investing, the margin of safety is higher as fund managers buy stocks at a very low valuation of the company, which gives liberty to have extraordinary risk management. “So if the loss is there it would be in a few per cent but if the win is there it would be transferred into few times returns, and that is the power of value investing,” says Mehta.

Mutual fund managers use value investing strategy within the constraints of the investment objective and their stocks universe. More often than not, they use a strategy to change the weightage of stocks/sectors vis-a-vis the benchmark index for the scheme.

“The objective is to generate alpha over the index by having more weight to relatively undervalued stocks. Often, it may include going overweight on stocks that are not the flavour of the current market trend,” says Menon.

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FINDING VALUE

* Fund managers focus on the core business fundamentals of stocks and evaluate their intrinsic value based on models such as discounted cash flow and enterprise value

* The objective is to generate alpha over the index by having more weight to relatively undervalued stocks

* The margin of safety is higher as stocks are bought at a low valuation

https://www.financialexpress.com/money/equity-investing-market-correction-offers-value-buying-opportunities/3000108/