Gmo Investment

What is value investing? What is its rationale? What are GMO’s main arguments in favor of value investing?

Value investing means invest in stock that its price is less than intrinsic value and wish to gain profit when the price accurately reflects the current market valuation.

The following are the typical characteristics to classify company providing value stock.

• Business life cycle. Value Company is in mature stage where the growth is low but certainty is high.

• Dividend yield. The company will pay high dividend to investor since it is not necessary for company to retain high retain earning to expand its business.

• Low price-earnings ratio. As the investor believes that stock’s price does not reflect current market valuation, they emphasize on company that has low stock price but high earning.

• Management team. Investor wants to invest in company that has strong management team who commits to boost shareholder’s value and has high ability to turnaround when company is in trouble.

• Current ratio and debt to equity ratio. In balance sheet, current asset should be at twice of current liability and equity should be at least as much as debt.

• Unfavorable industry. Company in unfavorable industry might have lower stock price since the demand in market is low. Comparing to company in favorable industry such as technology industry; demand might drive the price up higher than its intrinsic value.

Since investor invests in stock that has sufficient margin of safety (difference between the intrinsic value of stock and its market price), they buy stock where price is lower than company’s real value. And wait until the market recognize so eventually price of stock will correct itself according to intrinsic value then sell at that point and gain benefit from price movement (Appendix 1).

The main argument favoring value investing is GMO believes that portfolio of value stock can consistently provide above average return comparing to total market....