The Value Approach to Dividend Investing
In a value investing approach, you buy stocks with steady profit streams selling at prices below their true market value. Value investors search for underappreciated stocks: companies with a total stock value lower than the value of the shareholder equity, also known as working capital.
These stocks are typically well-established companies that pay dividends, especially companies way down in price compared to their historical average share price. The more beaten-down the stock’s price, the better the value.
On the stock market, supply and demand generally rule the roost. As a result, a stock’s worth at any given point in time is determined by whatever investors are willing to pay for it. The key to value investing is to follow a less biased and less emotional approach in estimating the true value of a stock.
According to Efficient Market Theory, you can’t possibly gain an advantage over other investors because investors are rational and all of them have access to the same information. In other words, you may as well just buy an index fund.
Fundamental Analysis basically asserts that the Efficient Market Theory is a bunch of hooey. Although the market may be efficient on a yearly basis, it sure isn’t on a daily, weekly, monthly, or quarterly basis. Value investors are fundamental analysts. They analyze a company’s past results to evaluate its current financial health and then to predict the company’s future growth in earnings, revenues, and stock price.
Although past results are certainly no guarantee of future performance, past performance can be a good predictor of future performance. A company with a proven history of good management, innovation, and revenue and earnings growth can be expected to continue along that path until experiencing a drastic change.