The price of a stock does not determine how much it is actually worth. For example, Starbucks is trading at around $45 currently. Does it mean that a share of the business is really worth $45? One day the price can rise and the next day it can fall. Does it mean that the fundamentals of the business have changed drastically within the short span of a few days? The price of the stock does not equate to its value. The true worth of a stock is termed the “intrinsic value” and this value can be higher than, lower than or at the current stock price.
If we turn to the media, be it the newspapers or the television, the price of stocks are widely touted and very few talk about the true worth of a business. You also might have heard your friends or relatives talking about how cheap a stock is since it is currently priced at 50 cents, when it traded at $3 just a year ago. They entice you further by saying it is a screaming buy based on this fact alone and by buying, you can make five times your money if it goes back to $3!
However, focusing on stock price alone is not how investing should be done. We should approach investing from a business perspective and for us to do that, we have to cut off the stock price from the business when we are researching. To help us in this, we can literally think of taking a scissors and cutting off the link between the business and the stock price. Also, thinking that the business is a private one instead of a public listed company will help us not to be focused on the stock price. This is because a private business can only be analysed as a whole without the daily fluctuations of stock price, which is characteristic of a public listed company. From my understanding, when Warren Buffett analyses a company, he looks at the fundamentals of the business first and looks at the stock price right at the end. This allows his judgement not to be clouded by the price of the stock.
How do we approach investing from a business perspective? One should analyse the competitive advantage of the business, the financial statements of the business, the competence of the management and whether the business is undervalued. (All these are covered in my other blog posts and they can be accessed from the “Value Investing” category on the right.) By having a business approach, the analysis of the business would not be hampered by the stock price and we are able to make a sound judgement. We will make lesser investing mistakes too.
On top of that, in investing, we need to have long-term view of five to 10 years. Businesses take time to grow and they do not flourish overnight. When we invest in a business, we have to think that the stock market will be closed for the next five years and that our entire family fortune depends on this company doing well. With this mindset, we will go rarely wrong when investing.
Personally, I too have had my judgement clouded by the price of the stock at times. When this happens, I need to remind myself that I am investing in a business and not speculating. Benjamin Graham, the father of value investing, once quipped, “Investment is most intelligent when it is most businesslike”. It is a powerful quote to reflect upon. Approach stock investing as investing in a business and half the battle is worn. The other half of the battle is analysing the business.