Investment Philosophy
Why Value Works
The evidence says value works. Here is what it takes to capture it — the temperament, the traps to avoid, the disciplines that protect you, and how to construct a portfolio that survives the messy reality of markets.
The distribution of value outcomes
Value stocks outperform over the long run, but the distribution of their outcomes is wide and skewed. This is essential context: value comes with both higher expected returns and higher failure rates.
Value works on average, but not every value stock works. The opportunity exists precisely because the distribution is messy.
The personality of a value investor
Value investing is often described as a philosophy or a process, but at its core it is a temperament. Research and practitioner experience consistently point to a recognisable personality profile among successful value investors.
Intrinsic value thinking
Early encounter with financial fragility
Formative career humility
Probabilistic numeracy
Natural contrarianism
Deep curiosity
Emotional discipline
Calibrated confidence
Low need for social validation
Long-term orientation
Avoiding value traps
Not all cheap companies are mispriced opportunities. A value trap is a company that looks cheap on conventional metrics, but where the intrinsic value is actually lower than the current price. You cannot capture the value premium unless you accept that some proportion of cheap stocks are broken — but disciplined investors develop a systematic way of separating opportunity from danger. One approach is to form a checklist of potential areas where you could be running into a value trap. Here are seven we have followed in the past:
The Seven Red Questions
Are there hidden or missing liabilities?
Off-balance sheet debt, accounting quirks, leases, pension deficits, environmental or legal liabilities, working capital unwind risk. These can turn an attractive valuation into a mirage.
Are past profits inflated or deflated?
Capitalised expenses, under-depreciation, one-time gains, aggressive revenue recognition, cyclically high margins. Accounting profit is not economic profit.
Are there structural threats to future profitability?
Technological disruption, regulatory changes, shifts in consumer behaviour, margin compression, declining relevance of assets. The most common source of value traps.
Is the balance sheet strong enough?
Covenant constraints, refinancing cliffs, weak interest coverage, reliance on asset sales, high working capital needs, liquidity mismatches. Leverage amplifies uncertainty.
Is the business good enough?
Does it have a moat? Are returns on capital consistently above cost of capital? Are margins stable? Price cannot compensate indefinitely for deteriorating economics.
Do profits convert into cash?
Free cash flow is reality; earnings are opinion. Watch for large receivables growth, inventory build-ups, capex needed to stand still, and accounting adjustments flattering earnings.
Are there non-financial reasons this company may be trapped?
ESG liabilities, governance failures, regulatory pressure, reputational issues, environmental costs. These increasingly impair future cash flows even when headline valuations look attractive.
If you want to capture the value premium, you must accept a paradox: the very characteristics that make value stocks painful — uncertainty, fear, controversy — are also what create the opportunity. The discipline lies in discriminating between good value and bad value.
The behavioural advantage
In value investing, the behavioural dimension matters more than any analytical skill. You can understand factors, build models, and calculate returns on capital — and still fail if your behaviour is unstable. Conversely, investors with modest analytical skill but strong behavioural discipline often outperform over time. One area which has been increasingly studied is behavioural biases which may impact decision making. Here are some of the most salient biases.
Key behavioural biases
Anchoring
Clinging to initial information even when fundamentals change.
Overconfidence
Understating error bars; exaggerating your ability to forecast.
Recency bias
Extrapolating recent events into the future.
Narrative fallacy
Falling in love with a story that makes poor investments sound compelling.
Loss aversion
The pain of a loss felt roughly 2x the joy of a gain.
Confirmation bias
Seeking information that reinforces your view.
Herding
Copying others, especially during drawdowns or euphoria.
Endowment effect
Overvaluing what you already hold.
Sunk cost fallacy
Persisting because of effort already invested.
Emotional contagion
Absorbing the mood of the market.
Six disciplines that protect you
- 1
Write up your work before buying
Writing forces clarity, reduces narrative drift, and creates a record of your thesis, risks, and what would invalidate it.
- 2
Revisit past decisions
Structured post-mortems, thesis drift analysis, counterfactual analysis, and decision journals systematically reduce repeat errors.
- 3
Build challenge into your process
Seek alternative views, stress-test your logic, engage with people who disagree, and run pre-mortems for large positions.
- 4
Stay grounded in fundamentals
When prices move violently, fundamentals anchor you. Focus on long-term earnings power, unit economics, and normalised margins.
- 5
Maintain emotional stability
Remain calm during panic, don't chase excitement, tolerate looking foolish, and don't equate performance with self-worth.
- 6
Set process constraints
Position size limits, stop-adding rules, liquidity thresholds, your seven red-flag questions, price discipline, and diversification minimums.
The behavioural advantage is the moat around value investing. The investor who behaves better earns the premium.
Portfolio construction
The goal is deceptively simple: capture the value premium while achieving robust results across many alternative futures. The challenge is that the future is uncertain, equity returns are path-dependent, individual stock outcomes are highly skewed, and value stocks have wide distributions of returns.
A well-built portfolio does two things simultaneously: maximises exposure to mispriced opportunities, and minimises the chance that any single mistake or regime shift derails long-term performance.
Constructing for many possible futures
The objective is not to create a portfolio optimised for one precise forecast — it is to create a portfolio that works across many plausible paths. This requires understanding how holdings interact, building in resilience to structural change, and avoiding concentration in correlated exposures.
Statistical and fundamental diversification
Correlation matrices reveal how stocks behave relative to each other and where diversification is illusory. But statistical diversification is insufficient — you also need fundamental diversification: different business models, demand cycles, input cost structures, balance sheet risks, and drivers of intrinsic value.
Scenario thinking
You cannot forecast the future with precision, but you can imagine different environments: recession vs expansion, inflationary vs deflationary, rising vs falling rates, technology disruption. A robust portfolio has winners in multiple environments and few positions that fail simultaneously.
Ergodicity and diversification
Individual stock returns are non-ergodic — the path of one stock is not representative of the average experience of many stocks. You need 20–40 genuinely independent positions so that poor outcomes are diluted, positive skew can express itself, and compounding can unfold smoothly.
Managing idiosyncratic risk
Size positions based on uncertainty, balance sheet strength, structural risk, and cash conversion reliability. Apply your seven red-flag questions as a checklist. Continuously re-underwrite: is the thesis intact? Have the probabilities changed? What would make you sell?
A well-constructed portfolio allows good analysis and good behaviour to translate into good long-term returns. Your temperament — not your spreadsheet — ultimately decides whether you capture the value premium.