Value investing can offer attractive returns, but newcomers may find success elusive. Here’s how value ETFs can help investors of all experience levels benefit from value stocks.
This could be strong companies that have suffered a temporary drop in share price, or could also be sleeping giants with good future potential.
The idea is that by actively seeking out and buying such stocks, the investor stands to profit when the stocks rise to match their fair market value.
At this point, the investor can choose to exit their position (i.e., sell their stocks) and pocket a tidy chunk of profit, or reinvest their profits and continue to ride the rally while compounding their gains along the way.
You may recognise this as the OG ‘buy low, sell high’ strategy. It sounds simple and straightforward, but is this all there is to it?
How do you start finding which companies’ stocks are currently undervalued, and how do you know if their prices are even guaranteed to go up?
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A closer look at value investing
Before we get around to answering those questions, let’s take a closer look at value investing.
|Potential for impressive rewards||Requires a fair amount of knowledge and research to be successful|
|Lesser volatility involved||Outcomes are not guaranteed|
|Suitable for those pursuing long-term growth||Short-term results may be absent or lacklustre|
Pros of value investing
One of the most compelling reasons to adopt a value investing strategy is the potential for impressive returns. You’re essentially buying stocks and shares at a discount, and will turn a profit once the share price recovers to its fair or intrinsic value.
The bigger the difference there is between a stock’s intrinsic value and its current market price, the greater the opportunity to make a profit.
Value investing also offers lower volatility — the strategy is predicated on stock price recovery, which could take a good while to take place. Hence, you don’t have to do a lot of buying and selling in the short term.
This is also why value investing is attractive for those who pursue a long-term investing strategy.
Cons of value investing
Value investing is not without its drawbacks.
For starters, you’ll need to understand what makes a stock undervalued, which means you’ll need to research and parse data such as the company’s price-to-earnings ratio, price-to-book ratio, and book value, just to name three of the most common factors.
Remember that in order to make a profit, the company’s share price needs to make a recovery. Whether this will happen, when, and to what degree are inscrutable.
Even with hours of research and analysis, the best anyone can arrive at is an educated guess.
Hence, outcomes in value investing can be uncertain, and you should be prepared for some of the companies you invested in never making a recovery.
Also, value investing can be downright boring. The equities in your portfolio may remain flat for a long time. When this happens, some investors lose their nerve and may be tempted to sell early and miss out on future profits.
The crux of value investing
The crux of value investing lies in this: The greater the difference between the intrinsic or fair value of a stock and its current share price, the bigger the opportunity.
Therefore, to be successful, you’ll need to know two things:
- Whether the stock is undervalued
- When the stock will recover
And therein lies the problem. While research and knowledge can help you detect when a stock is undervalued, nobody can tell you when the stock price will recover, or if it even will at all.
So what’s a busy investor to do?
Use ETFs to make value investing easier
Since there is no way to tell if any one particular undervalued stock will recover, the logical response is to spread your money over a whole bunch of them instead.
That’s where Exchange Traded Funds (ETFs) come in. An ETF is an index that tracks a predetermined basket of multiple stocks.
Take, for example, the Straits Times Index (STI), which tracks the prices of the 30 best-performing companies in Singapore.
The STI’s performance is closely tied to the price action of these 30 stocks. Whenever prices go up or down, the STI follows accordingly.
That, in a nutshell, is how ETFs work.
More importantly for our purposes, ETFs can be composed of any combination of stocks and shares across any sector, territory or globally.
You can find ETFs that track leading tech companies, such as Apple and Google and Facebook, those that track commodities, such as grain or metals, or some that track emerging economies, such as India and Southeast Asia.
And, of course, there are ETFs that track companies believed to be undervalued, and these are the types of ETFs we want to focus on.
Three value ETFs to add to your portfolio
Vanguard Value Index Fund ETF (VTV)
The Vanguard Value Index Fund ETF is one of the largest value ETFs around in terms of asset under management (AUM), which totals around US$86 billion.
With over 300 value stocks in its basket, this ETF offers investors a high degree of diversification, making it a good pick for those who want a broad range of exposure to value stocks in the United States.
It is also attractively priced, with an expense ratio of just 0.04%, meaning you won’t have to pay high fees when investing in this ETF.
Invesco S&P SmallCap 600 Pure Value ETF (RZV)
Another ETF with a deep focus on value stocks is the Invesco S&P SmallCap 600 Pure Value ETF.
As its name suggests, this ETF measures the performance of securities identified with value characteristics within the S&P SmallCap 600 Index. This also makes it a good option if you want exposure to smaller companies to balance against other ETFs or stocks focused on companies with large market capitalisation.
Within this ETF, some of the highest weightings are taken up by industrial and financial companies — its top three holdings are involved in business distribution, coal mining and fuel-grade ethanol and corn oil.
VictoryShares USAA MSCI Emerging Markets Value Momentum ETF (UEVM)
This ETF has a mouthful of a name, but the words to focus on are ‘emerging markets’.
UEVM is an ETF that focuses on value stocks from emerging economies around the world, with equities from China, South Korea, Taiwan, and India making up the majority of the index.
Holdings are selected for inclusion on the twin bases of value and growth momentum, with equities that are evaluated to have lower stock price volatility given a higher weightage.
The expense ratio for this value ETF is around 0.45%, which is a competitive rate when compared to other emerging market ETFs in general.
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