What is Undervalued
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. An 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 generation and capital management, to determine the stock's intrinsic value. Buying stocks when they are undervalued is a key component of famed investor Warren Buffett's 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 exact way to determine a stock's intrinsic value — which is essentially 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 circumstances, 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. In contrast, a stock deemed overvalued is said to be priced higher than its perceived value. If a valuation model is inaccurate or applied in the wrong way, it could mean the stock is already properly valued.
Value Investing and Undervalued Assets
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 marketplace for fear of an unfavorable return.
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 or she personally believes in, even if market indicators do not support the position as profitable. This can include avoiding investments in companies with products that he or she do not support and directing funds to those they do. For example, should an investor be against cigarette smoking, but support alternative fuel sources, they would invest their money accordingly.