Value Investing: A Comprehensive Beginner Investor's Guide to Finding Undervalued Stock, Value Investing Strategy and Risk Management

Introduction

You’ve probably invested at one point or another. Perhaps then you didn’t even know you were investing in something. For example, some people consider a college education to be an investment. This is because when you invest, you are putting in some of your resources with the intention of making some future benefit from it. Education can be said to work that way too.

However, the above is a general definition of what investing actually means. In its narrow sense, investing is the process of committing some money to a financial asset, or security. The aim of it is that the initial money put in will multiply, yielding dividends for the investor.

Warren Buffett, who is arguably one of the greatest investors of all time, provided his own definition of investing. According to him, investing is the process of laying out money now to receive more money in the future. The intention of the investor is to put his funds into one of the investment channels, and then watching it grow over time.

Investing entails prioritizing how one’s money is used. Spending money is a lot easier than saving, and even harder than investing. With spending, there is the immediate gratification that comes with the new outfit or the vacation that the money was used to purchase. Investing, on the other hand, is putting aside the immediate wants for future gains.

From investing we can thus get a definition of an investment. An investment is defined as something of value acquired with money that is expected to grow over time. Investments can be divided into three categories. They are Ownership Investments, Lending Investments, and Cash Equivalents.

Ownership Investments: These are the investments that people are most familiar with. It is the type of investment that readily comes to mind anytime one is asked what an investment is. Furthermore, this class of investment is the most volatile. They carry the greatest risks and as a result, they also carry the greatest benefits.

Ownership investments includes stocks. Simply put, a stock grants you the right of ownership over some part of a company. In general, all securities are examples of ownership investments. A purchase of stock gives you certain rights within the company. It also gives you the ability to have a share of the company’s profits in the future.

Another example is the money put into running a business. Entrepreneurs go through a lot of risks while running their businesses. The task is easily more demanding than a lot of people presume. It is an example of ownership investment that has a lot of potentials.

An investor can make a lot of money simply by creating a product. As long as the product solves human needs it will definitely generate sales. You only need to look at Microsoft founder, Bill Gates, to realize how powerful a person’s product can be.

Real estate is also an example of an investment. The houses that you buy and or the ones you sell after renovation can also be termed investments.

Of course, the house one currently resides does not fall under this category. This is because although the property may appreciate over the years, it has just one function still. As long as it continues to provide the use as shelter it cannot be called an investment.

Finally, objects such as paintings, valuable art, and pieces of jewelry that are valuable can also be examples of ownership investments. The important thing to note here is that the objects must be bought with the intention of being resold.

If the objects are bought purely for their aesthetic or artistic value then they can hardly be considered investments. Jewels and such other precious metals may not be good examples of investments. This is because their values depreciate with time.

Lending Investments: Lending investments put you in the same position as a bank. Generally, they pose fewer risks than ownership investments. As a result of lowered risks, they also offer lower returns for investments.

For instance, a bond issued by a particular company can only earn a set dividend. On the other hand, the stock of a company may double or even triple its value within the same period. Also, the stock may lose heavily within the same time frame.

As you must have already figured out, an example of a lending investment is a bond. A bond is a general term used to refer to a variety of securities. They include treasuries, debt issues, and credit default swaps (CDS).

The profits that come with each bond vary depending on the nature of the bond. Some of them, by their very nature, have high risks attached to them, almost as high as a stock’s. However, the basic rule is that lending investments have lower risks and lower returns than can be said of ownership investments.

Cash Equivalents: These investments are easily convertible from securities to cash. They are said to be as good as cash. The most popular amongst them is money market funds.

Money market funds yield very small returns on the investment. The returns usually fall within the ranges of 1-2%. Consequently, the risks are also very minimal.

There have been some instances where money markets yielded very high returns. However, those times have not been constant and cannot be used as a template for how money markets work.

There are several purchases individuals make which they consider investments but sadly are not. An example of this is consumer purchases. Whatever the consumer purchases, whether they are edible or not, are certainly not investments.

Every item that depreciates over time cannot be considered an investment. There can hardly be anyone willing to purchase second-hand consumer goods at the same initial price of purchase. Even celebrities, who sometimes auction off their household items, do not recover their purchase price. A lot of people tell themselves that they are investing, when buying consumer goods, to lessen the guilt of impulse buying.

Differences Between Investments and Savings

A lot of individuals tend to mix up the concepts of savings and investments; however, they are not the same. They play different roles in the lives of individuals either saving or investing. Furthermore, savings and investments achieve different purposes.

Saving money or valuables is the process of setting aside resources for later use. They are usually put in very safe and liquid accounts. An account is liquid if it can be accessed within the shortest possible period. For instance, in the case of cash savings, you should have the ability to save and retrieve the money with minimal stress.

Savings are usually for shorter periods than investments. The goals sought to be achieved are not so distant in the future. This could include plans such as going on a vacation in a year, going shopping at a later date, etc. Typically, savings towards a particular project should not take up to 3 years.

There is minimal risk with savings. This is especially true when your money is deposited with a financial organization that insures your cash to a reasonable extent. In the United States, individuals who save their money with the Federal Deposit Insurance Corporation have their money insured. They are entitled to $250,000 in the event that unforeseen circumstances occur.

Finally, some interest may accrue due to savings. If money is deposited in a savings account and left for a significant amount of time, it may generate interest. The interest, however, cannot be compared with what is obtainable with investments.

Contrary to savings, investing involves the use of money to purchase assets the investor thinks will yield profits at a later date. The investor works with the mindset that the investment will yield favorable turnover after the passage of a particular time. Although there are no certainties with investments, there are often margins of expectations the investor considers before investing.

Investments are usually the opposite of savings. They are for longer periods of time and are used for the attainment of a major goal. With an investment, it may be difficult to have access to the cash on short notice.

Furthermore, there is always the danger of loss with investments. The risks associated with investments are higher than the risks associated with savings. This means that there are higher chances of losing a lot of money than with savings.

Conversely, investors have the possibility of amassing interests. When the value of an investor’s investment goes up, it automatically means that his net worth will increase as well. If at that point the investor decides to sell, he will make higher returns than he invested in at the beginning.

From all these examples, it is clear that what informs your decision on whether you save or invest is the end goal you have in mind. Also, your risk tolerance level also plays a part. It determines if you can stomach the pressures that come with investments. One thing is certain, however, there is a promise of higher