What does 'Undervalued' mean

Undervalued is a financial term referring to a security or other type of investment that is selling for a price presumed to be below the investment's true intrinsic value. A undervalued stock can be evaluated by looking at the underlying company's financial statements and analyzing its fundamentals, such as cash flow, return on assets, profit retention and capital management, to determine said stock's intrinsic value.

Buying stocks when they are undervalued is a key component of mogul Warren Buffett's value investing strategy.

BREAKING DOWN 'Undervalued'

Value investing is not foolproof, however. There is no guarantee as to when or whether a stock that appears undervalued will appreciate. There is also no single correct way to determine a stock's intrinsic value — it is basically an educated guessing game.

An undervalued stock is believed to be priced too low based on current indicators, such as those used in a valuation model. Should a particular company’s stock be valued well below the industry average, it may be considered undervalued. In these instances, value investors may focus on acquiring these investments as a method of pulling in reasonable returns for a lower initial cost.

Whether a stock is considered undervalued is open to interpretation. If a valuation model is inaccurate or applied in the wrong way, it is possible the stock is valued properly. In contrast, a stock deemed overvalued, or price higher than its perceived value, it may in fact be priced appropriately.

Value Investing

Value investing is an investment strategy that looks for undervalued stocks or securities within the marketplace with the goal of purchasing or investing them. Since the assets can be acquired at a relatively low cost, the investor hopes to improve the likelihood of a return. Additionally, the value investing methodology avoids purchasing any items that may be considered overvalued in the market place for fear of an unfavorable return.

Alternate Definitions

Value investing can also refer to the concept of investing in companies based on an investor's personal values, also known as value-based investing. In this investment strategy, the investor chooses to invest based on what he personally believe in, even if market indicators do not support the position as profitable. This can include staying away from investments in companies with products he does not support and directing funds to those he does. For example, should an investor be against cigarette smoking but support alternative fuel sources, he would invest his money accordingly.

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