How the Master Investors Always Find Great Value

Kirk Kazanjian

Growth investing may have been all the rage in the 1990s and during this year's rally, but research going back more than 50 years shows that value outperforms growth over long periods.

I interviewed a number of value investing masters -- top-notch managers who have outperformed the market and their peers over long stretches of time.

These managers also have stood tall during the recent probes of mutual fund companies. In fact, many of those I featured in my book have been named recently by the media as managers who can be trusted in an industry littered with people who have let investors down.

Below are the masters' best time-tested strategies for beating the rest of Wall Street...

Stay invested. Masters remain fully invested, even in down markets, so they don't miss the few days it takes to turn losing stocks into winners.

Christopher Browne, manager of Tweedy, Browne American Value Fund, is more likely to buy than sell when the market is tumbling. Research shows that up to 90% of investment gains occur during less than 7% of the time you're holding a stock, he says. The longer you are out of the market, the greater the risk that you will miss a rally.

Invest as if you were buying the business. Value investors focus more on a company's fundamentals than on the performance of its stock.

Billionaire investor Warren Buffett buys only stocks of businesses that he would be willing to own outright for decades, such as The Coca-Cola Company and The Washington Post Co. Buffett likes to say that once he buys a stock, his favorite holding period is forever.

Don't buy because it's cheap. Many value investors seek stocks selling below their intrinsic value -- what a private investor would pay to buy the entire business. Buying on price alone can leave you holding a motley collection of stocks with scant growth prospects.

Bill Miller, manager of Legg Mason Value Trust, which has beaten the S&P 500 Index for 12 years running, says of his team, "We are valuation purists, but we are not valuation simpletons." Finding bargains is only one step. Miller also checks a company's balance sheet and management. Is the company in an industry that has bright prospects...or is the stock cheap for a reason? If a company is heaped in debt, for example, it probably isn't a bargain, no matter how cheap it is.

Invest from the bottom up. Growth investors often use a "top-down" approach. They study economic outlooks and fundamentals of different market sectors, then pick companies in these sectors that they think will generate above-average growth.

Value investors typically use a "bottom-up" approach. Broad economic and stock market trends take a backseat to research on individual stocks.

Bret Stanley, manager of AIM Basic Value and AIM Large Cap Basic Value funds, calculates an intrinsic value for every stock he owns or is thinking of buying. Then he ranks them based on their prospects for price appreciation.

Stanley looks for stocks that are cheap because of a temporary cloud over the company or industry that he believes will be lifted within six months. When he buys, his target stock may appreciate by 50% over the next two to three years.

Avoid stocks that analysts are pushing. Much of Wall Street research is aimed at growth investors, who hope to make quick profits on fast-moving stocks. Value involves a long-term bet on bargains that others have ignored, so do your own searching and screening at such Web sites as finance.yahoo.com and morningstar.com.

David Dreman, manager of Scudder-Dreman High Return Equity Fund, suggests that investors cut research reports in half. "Read what analysts have to say about a company and its prospects," he says. "Use the rest of the report -- where the analyst makes specific buy recommendations -- for kindling."

Research who is running the company. When you buy a distressed stock, you place a heavy bet on the ability of management to engineer a turnaround.

Bill Nygren, manager of The Oakmark Fund, looks for companies run by executives who have successful track records and interests that are aligned with those of shareholders. Nygren wants to see that company executives own a substantial amount of company stock.

He also looks at how incentive pay packages are structured. For example, are stock options tied to a company's sales figures, which can be inflated...or to return on capital, which is harder to fudge?

Have a strategy for selling as well as buying. You can buy and hold a stock for decades -- as long as the company continues to generate the gains you had hoped for. However, since value investors buy underpriced stocks, they are prepared to sell once a stock reaches its true worth.

Jean-Marie Eveillard, co-portfolio manager of First Eagle Global Fund, aims to hold a stock until it reaches what he considers its intrinsic value. He keeps it longer if he feels its intrinsic value is rising.

Eveillard also is quick to sell disappointing stocks. "Maybe we think the business is worth $25 a share today," he says. "When we take another look in 18 months, our reassessment may show that the value is only $15. By that time, the stock usually has declined, so we accept our mistake and take our loss."

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