Price vs Value

There is this wonderful article written in Dec 2003 by Shih Wing Ching called Price versus Value.

• Price is Superficial, Value is Real. Put it simply, price is superficial while value is something real. Price is a product of trading but value still exist without trading.
• For example, water is a highly valued substance. Its physical nature and chemical property determine that it is a necessity of life. But water has a low price as it is easy to find. However, water is very rare in deserts. When someone is in lack of water to keep him alive, he will be willing to pay the greatest price in exchange for the inner property of water and that is the value of water. From this we can see that value is intrinsic and constant, while a price is based on the relationship between supply and demand.
• In stock markets, the quality of a company, which reflects its value, changes very slowly, but the trading price of its stock moves every day. It is because people have different projections on a company's quality and the number of interested buyers vary every day, thus causing a change in supply and demand and that prices can float freely without being bound by value.

What's that famous sport saying?

Oh yeah.... Form is temporary but class is permanent. :D

In the share market, the traded share price dictates the value of a company based on the supply and demand of the stock. But as we all know, this traded share price represents the temporary form. The class or the quality is what's known as of permanent value. :)

• Buy Value, Sell Price. Generally speaking, a price always moves around value and goes up and down.
• For most of the time, a price is either too low or too high and it moves from one extreme to another, i.e. it moves from seriously too high to seriously too low.
• For example, property prices were seriously too high in 1997 but they were extremely too low in August 2003, and afterwards, they will gradually become more rational and then become seriously too high.
• Investors should buy when the price is below the value and sell when the price is above the value.
• To buy or not mainly depends on value. Investors should consider if it is worth it to buy and they should not count every nickel and dime, worrying at what price the seller bought it at and how much he has earned from the trade.
• When selling, investors should consider if the price is too high and whether it has sufficiently reflected its potential value.
• Most shareholders only watch the movement of stocks but forget to understand the value quality of a company. To understand the quality of a company, the first step is to look at its financial conditions such as the levels of assets, liabilities and cash. Moreover, we have to look at its business competitiveness in the market, its competitors and its earnings outlook. More importantly, we have to look at the vision, ability and integrity of the management. If a company treats its shareholders badly, it is better not to touch its shares.

Buy the Value, sell the Price!

Well said. I like the last paragraph the most. Let me repeat again...

Most shareholders only watch the movement of stocks but forget to understand the value quality of a company.

1. To understand the quality of a company, the first step is to look at its financial conditions such as the levels of assets, liabilities and cash.
2. Moreover, we have to look at its business competitiveness in the market, its competitors and its earnings outlook.
3. More importantly, we have to look at the vision, ability and integrity of the management.
4. If a company treats its shareholders badly, it is better not to touch its shares.

Don't forget point 3 and point 4!

Another way to describe the integrity is 'What is the value a crooked company?' :p

Wait don't go away yet. The last part of the article is even better!

• Theory Correct, Practice Difficult. Buffet is an all-time winner with such investment strategies but it is not easy to put those strategies into practice. The value which we refer to here is not as simple as the net asset value of a stock. There are lots of components which are difficult to quantify. For example, to measure the management's vision, ability and integrity is difficult enough, how can we know its value has not been reflected in its share price? Moreover, companies are not in a static state and the external environment is always changing. A company can be competitive today but can it maintain its competitiveness tomorrow? God knows. So, it needs extremely high level of wisdom to judge how valuable a company is. Without the wisdom similar to Buffet's, it is not easy to follow his strategies to earn money. I have seen quite a lot of funds which boast that they use the same investment strategies. Their performance is not outstanding but just moves in tandem with the broader market. To small shareholders, it is even harder to put this theory into practice. Unless they have at least billions of funds in hand, it is impossible for them to meet with a company's management as easily as the fund managers or analysts can. Without access to know more about a company, it is difficult for small shareholders to tell the real value of a company. They cannot have full confidence in their judgment.

The highlights in red and more important the highlights in blue are soooooo important!

And last but not least, this paragraph is worth remembering!

• Under this circumstance, Buffet said he will be prepared to hold the stock for a longer term in order to wait for the right time. The problem is that the environment is changing night and day and a company's competitiveness varies according to the environment. Some companies may be worth investing but their investment value may disappear before being picked by shareholders. The situation is like the concubines of an emperor in ancient China, they might have already lost their beauty before getting the emperor's appreciation. (LOL! :p)

The issue of the environment changing night and day and that a company's competitiveness varies according to the environment is such an important issue for those who wants to buy and hold a stock long term.

When the company's competitiveness advantage is not strong and durable, what are the chances of success if one buys and holds the company's stock?

Which is why the ROI (review of investment is so important). One cannot simply buy a stock and hold it forever and ever, till death do us part, hoping that the stock will one day give a very generous return.

It just does not work this way. The change in the environment could cause a good stock turn bad for many years. And if the management is not able, this could turn into a permanent disaster!

So are all stocks for the long run? This is such a fallacy! It just does not work this way. One cannot simply buy any stock and hold it long term and ASS-U-ME (die do i have to pay copyright for this little tiny word? :p) that they will guaranteed success!

Remember Buffett's recent letter ?

• The Dow increased from 65.73 to 11,497.12 in the 20 th century, and that amounts to a gain of 5.3% compounded annually. (Investors would also have received dividends, of course.)

==> Can we ASS-U-ME that we will get the equal rate of gain in the 21st century?

• To achieve an equal rate of gain in the 21 st century, the Dow will have to rise by December 31, 2099 to – brace yourself – precisely 2,011,011.23. But I’m willing to settle for 2,000,000; six years into this century, the Dow has gained not at all.

See the point Warren made in the last sentence? Six years into this century, the Dow has gained not at all!!