The Cub Scout motto “Be prepared” has been translated into many languages with slightly different interpretations. In English, the motto is taken to mean that you are always in a state of readiness in mind and body to do your duty. Although my scouting days were short-lived and are now a distant memory, I follow this advice in my investing approach.
As a value investor, I believe every asset is attractive at a certain price. My job is to dig through financial statements, model risk, and determine the price at which the potential rewards outweigh the possible risks. Buying shares below that price allows me to increase the likelihood that my portfolio will increase over time.
Since markets do an excellent job of separating winning stocks from losers, my value approach eliminates most investment ideas. Of the 150 companies I actively follow, normally there are only eight to ten that I find attractive at a given time. However, markets constantly change and we must be prepared to act when they do.
For me, being prepared entails understanding what an asset is worth and what variables led to the determination of that value. This level of preparation allows me to watch a price change and decide whether the change was driven by fundamental shifts that affect my valuation or by investor emotion. When emotions lead prices lower, buying opportunities are born.
During this bear market, we have seen many emotion-driven plunges erased by wild optimism. While I believe the economy is nearing a bottom, I do not believe a sharp V-shaped rebound is in the future. Instead, I foresee years of subpar growth while we adapt to slower overall growth and a declining quality of life. In this environment, emotion-driven plunges offer buying opportunities while strong rallies lead to sales. Fundamental trades—buying what is cheap and selling at full value—have accounted for 65% of our portfolio’s profits.
Following this pattern, one of my first fundamental trades was Walt Disney (DIS). I believe that fair value for DIS is $25, and the market allowed me to purchase the shares at a discount. With the current rally, that discount is now gone. At the moment, I find the shares fully valued and will take advantage of the opportunity to exit.
By clearly modeling risk and reward, we prepare ourselves for whatever the market delivers. When investing, we must remember that a sale approach is equally as important as a buy approach. Markets will provide us multiple chances to buy stocks at a discount. By realizing profits when stocks hit our target, we prepare for new opportunities. Therefore, I recommend selling the DIS position as this week’s fundamental trade in my weekly newsletter EPIC Insights.