Value Investing

Value investing is a style of investing which derives its fundamental basis in business ratios. It is a long-term investing method that takes advantage of short-term downturns whether industry or market wide. Upon recovery, the investor simply sells their investment and waits for another downturn.

Value Investment Fund – End of May 2022 Report

Value Investment Fund

During May, the Fund expanded the portfolio to include two new positions from among the existing 48 potential investments. The first included three separate tranche purchases of The Walt Disney Company and the second was an opportunity presented when Essex Property Trust, Inc. dropped below its intrinsic value. In addition, the Fund sold two separate option contracts in both positions. The Walt Disney Company position was exercised within a few days of that sale and the current option contract for Essex Property Trust, Inc. remains active. The sale of PUT options (three separate companies) generated $3,019 of realized income after associated transaction fees. Finally, Wells Fargo did issue a dividend worth $271 for the Fund. This dividend sits as a receivable on the books of record as Wells Fargo will pay the dividend during the first week of June.

End of 1st Quarter 2022 Report – Value Investment Fund

Value Investment Fund

During the first quarter of 2022, all major indices experienced dramatic retrenchment with the market value of their respective index. At some point during the quarter, most indices had double digit value reduction; the last half of March 2022 saw all of the various types of funds recover from the low points earlier in the quarter. However, this site’s Value Investment Fund experienced continued growth. This is the result of exercising highly selective buys that reduce risk dramatically. In turn, this risk reduction principle minimizes any type of potential loss associated with an economic wide downturn.

McDonald’s Intrinsic Value

McDonald's

President, Chief Executive Officer and Director of McDonald’s Inc. said it best in the earnings call in late January 2022, we are “… witnessing the beginning of the next great chapter at McDonald’s, …”. He continued with “2021 was a record-setting year for McDonald’s on many dimensions, …” Simply put, McDonald’s had the best financial performance ever in its history during 2021. It just didn’t marginally exceed records, McDonald’s dramatically surpassed all financial records in its entire history. McDonald’s was already the standard bearer in the informal-eating-out industry; it took this standard to a whole new level. When a company has net profits of more than 20%, it is labeled a ‘darling’; over 25%, it is just unheard of financial results; in 2021, McDonald’s net profit was greater than 32%. This sets such a high standard for fast-food restaurants; it is unlikely to be matched by others – EVER.

When a company performs to this level, intrinsic value soars. Intrinsic value is built on a company’s inherent worth. The more stable and reliable a company, the greater the intrinsic value for that company. The reason is simple, the discount rate used with evaluating earnings improves because management demonstrates that it can indeed perform and in this case, perform at exceptional levels.

What is even more fascinating is this: 

If you look at McDonald’s balance sheet, total assets on 12/31/21 are $53.8 Billion; total liabilities are $58.4 Billion. McDonald’s has a NEGATIVE EQUITY POSITION OF $4.6 BILLION. You read that correctly. In simple layman’s terminology, this is called ‘Bankrupt’. Every business textbook used in college defines bankruptcy as liabilities exceeding assets. This makes McDonald’s performance just that more impressive. They are so solid, even creditors ignore this situation and will still loan money to McDonald’s. During 2021, McDonald’s was able to acquire long-term loans totaling $1.154 Billion.  To further validate the incredible worthiness of McDonald’s, from page 57 of their filed SEC Form 10-K (annual report), “There are no provisions in the Company’s debt obligations that would accelerate repayment of debt as a result of a change in credit ratings or a material adverse change in the Company’s business.” You can only count on one hand the number of companies that have this level of credit. 

McDonald’s is financially rock solid.

Value or Growth Investing – Which is the Superior Investment Strategy?

Value Investing

There are about a dozen popular investment strategies. Two of them stand out in the crowd as the best due to similar standards of research required; they are value and growth investing. From these two top tier investment methods, which investment strategy is superior, value or growth investing?

Many that are unfamiliar with investing consider value and growth investing as synonymous. The truth is, both are starkly different. First, both have a completely different approach towards risk. Secondly, one places greater emphasis on holding the investment for extended periods of time. A third difference relates to the reliability of the supporting information when researching the potential investments. Finally, one of the methods has a superior dividends payout ratio over the other. 

This article will delve into these four distinct differences and how they play into results. When done, the reader should be able to quantify the value each provides depending on the mindset of the investor. Before getting into the four core differences, readers should understand the emphasis each form of investing has in order to discriminate the four core differences.

Intrinsic Value – Balance Sheet Fundamentals

Intrinsic Value - Balance Sheet Fundamentals

Novice and unsophisticated investors place greater reliance on net profits over the balance sheet to determine intrinsic value. However, most so-called experts forget what intrinsic value means; intrinsic value refers to the universally accepted core value of a company. In many cases, this can be easily derived from the balance sheet. If not derived from the balance sheet, the balance sheet can act as additional assurance that certain intrinsic value formulas are superior and best suited given the balance sheet information.

Understanding how a balance sheet is laid out, works and reports this information greatly assists value investors with determining intrinsic value. Gaining knowledge about balance sheet fundamentals takes a value investor to the next level of comprehension of value investing.

This is the second part in a series about intrinsic value. It is the first in a four-part series about the balance sheet and different intrinsic value formulas that are tied to the balance sheet. The next lesson in this balance sheet series delves deep into analysis of asset matrixes and proper interpretation of that information. It also includes how to tie the asset matrix to the liability layout. Understanding this relationship allows the value investor to apply certain intrinsic value formulas which are explained and illustrated.

Value Investment Fund – February 28, 2022 Results (Monthly Report)

Value Investment Fund

This site’s Value Investment Fund continues to dominate major indices year to date 2022. This is due to the primary principle of risk reduction tied to investments. When a value investor buys a security at less than intrinsic value, there is dramatic resilience against continued losses or sudden market downturns. In effect, there is less volatility. In exchange for this increased security, the value investor gives up instantaneous value growth due to the greater than normal stability of the respective investments. The secret to making a profit is to buy low and wait patiently for the market price recovery; the returns are still considered outstanding. Again, with value investing, expect returns above 30% on average per year. Do not expect returns greater than 40% as these are highly stable companies and well respected; thus, their market prices will rarely deviate dramatically in either direction.

Value Investing – Industry Principles and Standards (Lesson 25)

Business Principles Pyramid

Shifting from economic wide factors that impact market price to industry wide standards is essential with understanding and creating decision models for investment with a pool of similar companies. Industry standards are a part of the spectrum of business principles. This spectrum starts with tenets, universal rules that can not be broken by anyone in business. With value investing, the focus is on the primary business tenet of buying low and selling high. It is an undeniable requirement to increase one’s wealth. The spectrum moves towards core business principles that sometimes are not universally applicable. The final set are industry standards. Each industry has its own unique set of principles it must follow to be successful. Some are a function of law, others are driven by consumer expectations or the culture of the industry. For value investors, understanding this dynamic set of standards for each industry drives the holistic thinking of effective investing.

Value Investment Fund – January 31, 2022 Results (Monthly Report)

Value Investment Fund January 2022

This site’s Value Investment Fund easily beat all major indices during the month of January 2022. This is due to the primary principle of risk reduction tied to investments. When a value investor buys a security at less than intrinsic value, there is dramatic resilience against continued losses or sudden market downturns. In effect, there is less volatility. The value investor does give up instantaneous value growth due to the greater than normal stability of the respective investments. However, when you buy low and wait patiently for the market price recovery, the returns are still considered outstanding. Again, expect returns above 30% on average per year. Do not expect returns greater than 40% as again, these are highly stable companies and well respected; thus, their market prices will rarely deviate dramatically in either direction.

Value Investing – Concepts of Economics and Business Models (Lesson 19)

Concepts of Economics and Business

There is no single statement or overriding concept that equates to defining economics. There are about a half dozen or so concepts that the average person would state as a definition of economics. The most commonly accepted definition of economics is the balance of supply and demand. In effect, it refers to determining the relationship between needs/wants against limited resources. With value investing, understanding the concepts of economics allows for a more comprehensive elevation of thought related to financial analysis. There are literally hundreds if not thousands of forces at work at any given moment impacting the market price and of course a value investor’s intrinsic, buy and sell value points.

The study of economics is done at two levels. The macro level refers to the study of economics as a whole. It focuses on how different characteristics impact the overall ability to efficiently produce and delivery goods to consumers. Think of the impact the federal government has related to laws that in turn affect production and consumption of goods and services. For value investors, there are many different macro level decisions that affect financial analysis. These include decisions made by the Federal Reserve, specifically related to interest rates. Others include unemployment, tax rates, and governmental expenditures especially for capital improvements.

The second level is called micro economics. This brings in all those macro level changes and their respective impact on individual businesses and industries. As an example, a simple increase in the interest rate by the Federal Reserve affects the interest rate related to long-term leases. In the immediate short time period, there is very little change as leases have cycle time frames before they the lease’s interest rate changes. But, in due time, it will affect the interest rate which in turn impacts certain industries. A single railway leases thousands if not tens of thousands of railcars. An interest rate increase will in turn up how much cash outflows for leasing purposes. Ultimately, the railroad will raise their revenue per mile of tonnage which increases sales to offset the outlay of money for a lease.

Value Investment Fund – End of Year 2021 Report

Value Investment Fund

During 2021, the Value Investment Fund recorded an outstanding 41.08% return on its December 31, 2020 balance of $116,231. The Value Investment Fund ended 2021 with a balance of $168,430.

The effective annual return on the investment equals 41.08%. The target for a value investor is more than 30% per year. What helped boost this good return was the overall market gains during 2021. The DOW Jones Industrial Average increased 18.73% which is an outstanding year for the DOW. Over the last 20 years, the DOW averages an annual return of 11.3%. A similar pattern holds against the S&P 500. During 2021, the S&P 500 generated a return of 26.61% and over the last 10 years it averaged 12.15%. Even with adjustments for the better than average returns across the board in the market, this site’s Value Investment Fund still beat the goal of at least 30% per year.

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