The Business of Value Investing.pdf

164 The Business of Value Investing

investment in health insurer UnitedHealth Group in 1998 would

have been worth over $ 150,000 at the end of 2008, producing a 31

percent annual rate of return. Even Wal - Mart experienced a three-

fold rise in its share price over the period from 1998 to 2008, dur-

ing which time the broad market declined in absolute terms. All

three of these companies were sizable enough to be known by a

wide investor base; they were covered by analysts and were consid-

ered best in class in their respective industries.

The advantages of a buy - and - hold investment approach has

been deeply ingrained over the past several decades as a sound

approach for investment. The advantages of reduced transaction

costs and deferral of taxation are widely known. And the impres-

sive power that compounding can have on small incremental sums

of capital is also understood. But investors often mistake buy and

hold to mean buying any equity at any price and just waiting. The

value gained from any investment rests on the discount from intrin-

sic value that is obtained when the investment is acquired, which

in turn is determined by the price paid for the investment. So the

two elements of buy and hold are defi ned by these two parameters.

Investors should seek to buy those securities with market prices that

are below intrinsic value and accompanied by a satisfactory margin

of safety. Then the security should be held until the conditions of

undervaluation and satisfactory margin of safety no longer hold up.

Money is made at the time an asset is bought; it ’ s just not real-

ized at the time. When an asset is sold, the ultimate price paid will

determine the corresponding gain or loss recorded. If a security is

to be bought when the price is comfortably below intrinsic value,

then it should be sold when the price closely approximates intrin-

sic value. Because intrinsic value is, by defi nition, a moving target,

then the buy - and - hold approach is at the mercy of the intrinsic

value of the business. Thus, when hearing the value investor pro-

mote buy and hold, understand the implicitly assumed underlying

assumptions with regard to intrinsic value and price paid. There are

CH008.indd 164CH008.indd 164 9/2/09 11:48:59 AM9/2/09 11:48:59 AM