The Price Paid for a Stock is Important

Too often you read or hear people on this stock or that stock. Discussing whether or not investors should own it. And they won't mention price paid. They don't neglect this all the time, but fairly often it seems.

I was reminded of that reading a story in the International Herald Tribune that mentions one of my holdings, 3i Group PLC (III/LN):

Shares in 3i, a British private equity firm, have not done as well. They are up about 50 percent over the same period, but investors seduced into buying at the top of the technology mania are still underwater. The stock trades at a much cheaper 7 times earnings.

That's a fair point. But I wasn't buying 3i -- and neither were value investors like Eagle Capital Partners -- at the height of the tech boom. I bought in 2005. Big difference.

Now, before anyone thinks I'm patting myself on the back, let me point out that I suffer one of the main symptoms of value investing: buying too early. Allow me the assumption (delusion?) that Takefuji Corp. (8564/JP or TAKAF/OTC) works out. The fact is I established my position in that stocks at a significantly higher price. Ditto Media General (MEG/NYSE), though that company has made a nice comeback lately.

Yes, the company is important. But so is the price you pay for it. Very few of the stocks listed in the "Current Holdings" menu would be purchased today by me. Most have risen in price, and several have seen me take partial profits.

Stay patient and wait for your pitch. Tim McElvaine, when he worked for Peter Cundill, once put it this way: "Buy on the assets and sell on the earnings."

Comments

[Hopton]

Nice post... reminds me of Walter Schloss... something like... Price is the best determinate of value. Such wise words to remember.

I respect your patience... being early (or in cash) is a luxury that many institutional investors don't have. KEEP up the good work!

[Amit Chokshi]

Valuation is all that matters, most Americans in the middle+ class that made money in the market since 1982 have been suckered in the buy and hold philosophy. It's really quite clever in that the marketing machine for fin svcs always takes the stance that it's always a great time to buy and that buy and hold works, and then of course people look to a guy like Buffett who rarely ever sells and think what the hell, buy a good company with good fundamentals, who cares about the price. I think there's a recent interview on Consuela Mack's wealthtrack with some various money mgrs and I was stunned that at T Rowe Price back in the 60s all they focused on were fundamentals and not price. In my opinion, price is the ONLY thing that matters, fundamentals are really a secondary aspect to making real money in the market. Are they important, of course but too often from my view I see people focus on those and forget on the valuation.

[John]

Hopton: Wow, anyone who says anything coming off my keyboard reminds them of Walter Schloss is paying me a BIG compliment. Thanks!

Amit: Great food for thought, as are all your comments.

[Moon]

Amit, since valuation itself is derived from fundamentals, I have a hard time calling them secondary in the investment decision.

[Hopton]

Nice dialogue...

Moon: I think fundamentals and moats are often confused. What do you mean by fundamentals? Revenue growth is the classic false god of investing. If you understand financial statements, then it is self-evident why a wide moat/sustainable high ROIC is second ONLY behind price. In my opinion, a moat is underapprecited in the long-term, but price is underapprecited in the short-term.

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[Moon]

Disclosure: just an amateur -- my statements are mostly from books, only rarely from experience.

Hopton, I presently understand "fundamentals" to be the quantitative information gleaned from financial statements: expenses and revenue from the income statement; liabilities, assets, etc. from the balance sheet; etc.

I'm not experienced enough to be able to properly quantify moats -- I recall them being more often qualitatively described. I didn't think that moats were part of the "price is important" thread, but I may have missed someone's point.

[Amit Chokshi]

Moon - I should have clarified, fundamentals are important but all too often they are sort of mistaken for valuation, meaning people (pros included) confuse the two. As I stated before, in the 60s T Rowe just put everyone into the nifty 50 cause those were "good companies" and hence inferred they were good stocks. The same thing occured with Janus in the tech boom. They're schpiel was that they really knew the fundamentals of a company and thats why the returns were so great when in reality they were just riding the tech bubble with no eye to valuation.

You are right in that valuation is derived from fundamentals and the financial statements but I'll usually see valuation opportunities in situations with awful fundamentals. Look at the auto industry for example with how certain parts suppliers (HAYZ, SUP, ARM, etc) have performed quite well after smart investors were able to get in after the carnage.

It's almost in certain cases where great fundamentals are inversely related to attractive valuation. Today what's interesting to me is that the overall market seems fair to overvalued but there are some great opportunities in megacap areas (ie WMT) where businsses with incredible operating metrics (ROIC, ROE, etc) are trading at average valuations because the recent fundamentals dont look that great (same store sales are low, growth questions, etc) even though the company has been able to maintain/improve return on capital metrics.