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Value Research

New York—When this bear market ends (this fall? next spring?) there will be plenty of cheap stocks, a great environment for value oriented asset managers (assuming all their investors haven’t redeemed in the meantime.)  This leads to the question of which types of research do value investors favor.  Presumably, value-friendly research will do well (if the firms are still around.)

Value oriented investors trace their roots to Benjamin Graham, who first popularized the discipline of valuation analysis.  Graham’s investment philosophy was to buy good assets cheaply, when they are out of favor.  Or, as Warren Buffet puts it, ‘finding an outstanding company at a sensible price.’

There are many flavors of value investors ranging from the growth oriented (growth at a reasonable priced, or GARP) to those that primarily focus on bargains (deep value).   At the far end of the spectrum are the distressed investors which invest in bankrupt or near-bankrupt companies (and are currently thriving.)  Many hedge funds are value investors, including many of the Tiger cubs.  The so-called father of hedge fund investing, Alfred Winslow Jones, was a disciple of Graham’s who decided to add short selling (and leverage) to the repertoire.

So what types of research do value investors use?  Value investors are naturally disposed toward fundamental research, but there are many ‘buts’ to add to this.   The biggest ‘but’ is that most fundamental research does not deviate greatly from consensus, and value investing goes against the grain (or at least that was the original intent.)   Yes, fundamental research is valuation oriented, but for the most part it doesn’t do a great job in finding value in unpopular or undiscovered stocks. 

The disaffection with conventional fundamental research has prompted a growing number of value investors to do their own primary research, sometimes for idea generation, more often for refining potential ideas.  There are a variety of primary research tools available: expert networks, market research, channel checking, data mining, even web scraping (or search-based research as we call it.)    The most popular primary research tools are expert networks, which are relatively easy to use and provide fast results.  Market research and channel checking take more time but often provide more thorough analysis.  Value investors are less likely to use data mining and search-based research than some other investors, in our experience.

Value investors also gravitate toward more specialized forms of research such as forensic accounting and earnings quality analysis, whether to help avoid those stocks which are correctly undervalued or to help refine short ideas.  Other specialist research of interest to value investors include spin-off research,  distressed and management quality analysis.

Some value investors use quant screens for idea generation, and turn to external sources of quant research.    Among the quant providers, those that use valuation models are most popular with value investors.  Providers of Economic Value Analysis (EVA), which is cash flow oriented, tend to also do well.

Value investors also use investment strategy firms for idea generation and sector weightings.

Sector specialists in ‘value-oriented’ industries, such as financial services (now extra, extra value), industrials, and consumer, also tend to be well used by value investors.   Industry analysis generally is of interest, and some value investors use industry consulting firms which specialize in providing analysis and forecasts of a specific industry—typically sold back into the industry followed. 

 So, during the darkest hours of this bear market, think of the silver lining—more investment opportunities and more sources for research to help find them.

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