VALUE INVESTING
Real Value

By Stephen Bland (TMFPyad)
October 6, 2000

There has been an interesting discussion on the value board recently, well I thought so anyway although it clearly bored many readers, about 'real' value, otherwise sometimes known as 'true' value or worth.

I am of course concerned primarily with trying to discover specific value shares, but occasionally I must admit I enjoy sitting back and just thinking about the concepts involved and discussing them with others. Maybe there is some idea that can be improved, some alternative filters that may give us a chance of locating better quality value shares and so on.

What people mean when they talk about real value, with value shares, is that there is some underlying, ideal figure above the current price that represents what they believe the share to be worth. This would be based on an assessment of the fundamentals, as usual with value shares, but then placing a conclusion upon that assessment giving some absolute figure that the share should reach in order to realise its true value.

"The price is 100 now but it's gotta be worth 200, hasn't it?"

No. It is worth only what you can get for it in the market. If the market never says it is worth 200 you will never get it, whatever you believe the underlying value to be.

It is perhaps similar to the idea of setting a price target. I don't like fixed targets in general because a share price is a moving target anyway. The trouble is that you tend to get hung up on it and it may cause you to stay in too long, or not long enough, or perhaps start to overlook the fundamentals which may have changed, the fatal falling in love, if not with the share itself, then maybe with the target price.

My belief is that the monetary real value of anything is simply the open market price at that point. Since the stock exchange is a pretty open market, then the market value of a share, although changing all the time, is the market price at any particular point. Thus when I buy a value share, the price I pay is its value, its "real" value. Whatever I believe may happen to it in future, nobody right now is going to give me more.

That market value is simply a perception, the current net consensus of buyers and sellers of the share as to the price at which they are willing to trade it, at that moment. Perception, from something as irrational as humans, is highly unreliable. So for example five minutes later that consensus may have changed, even though there is no change in the fundamentals. Why? Because we are human is the only answer I can see. So which price is real, the present one, or the one five minutes ago? Both were real at the time, but a reality that fluctuates so dramatically has little meaning. The underlying ideal value, for those who subscribe to this notion that I am not sure exists, may never match the perception imposed by the market. It is that perception that determines whether you make a profit or loss, not the underlying ideal value.

It follows that what I am really looking at is perception, not reality. In fact a change in perception by the market in my favour. Someone said on the board that this is just semantics. It doesn't matter how you describe it, you just want the share to go up. Which is true of course. But philosophically, by thinking of the shifting price as mere change of perception, it helps me to be more detached. If I start thinking that there is some underlying real value, apart from the market price, it may draw me in too deep. Just a psychological point I guess, but there is a lot of psychology in value investing anyway.

The idea of the contrarian, of going against the crowd, is very much a psychological game, as well as one of mere numbers and fundamentals. It takes quite a lot of nerve to do this, even though the figures look highly attractive.

The only reality as I see it is money in the bank, when you go to cash, you have dumped your bit of paper with its ever changing value and you have a bank balance with an unchanging value. You have swapped the dream for reality. A permanent reality, enlivened with a nice dollop of interest now and again. That is much more real value than any share will ever be. With cash, the perception matches the reality. With shares, the idea that there is some ideal real value to which the share aspires may never be matched by the perception of the market.

It is the changing perception upon which you rely to make your money. You hope sufficient numbers of the crowd will alter their perception in your favour and you use fundamentals as road signs to try and show you and them the way. You first of course, the crowd to follow.

Consequently I am not in favour of the idea that a share possesses any underlying real value, other than its market value, for most of its life.

There are maybe three points in the potential life of a share when the value is fixed, is not just a constantly changing market consensus. Those are when it is hatched, matched or despatched. When it floats, if it is taken over, or if it goes bust.

On flotation there is an opening situation, take it or leave it, it is a new share and that is the price for which the vendors prepared to sell it to you. At that point there is no history. After that, real, i.e. market value fluctuates. If it is taken over you have a final exit value, the reverse of the flotation. The fluctuation ceases and the real value is the bid price. If it goes bust then of course the real value is zero, even though the day before it may have been substantial.

Everything else in between is perception. So all you have to do to win, is second guess the change in perception. Easy eh? No!

Where Next?

Value Shares discussion board