Beware the Value Trap

Beware of value traps! Learn how to identify the warning signs of value traps when investing in shares.

What is a Value Trap?

A value trap is a stock that is bought cheap gets cheaper… and cheaper. A stock appears to be cheap but in reality the deteriorating price is a warning of changed business fundamentals and can indicate further deterioration.

 

Value Trap Indicators

Business Plan

  • Business plan changes, over complexity or failures blaming everything and everyone except themselves.
  • Unprofitable expansions into non-key competency / non-synergistic areas.

Management

  • Insider selling knowing bad news before it becomes public.
  • Overly high compensation for managers affecting company profitability.
  • Little value being delivered for expansion or to stakeholders.

Obsolete Technology

  • Fintech disruptions.
  • Product/service becoming obsolete/outdated.
  • Non-monopoly products/services being replaced by a better performing competitor.

Hidden Problems

  • High amount of cash but low interest income.
  • Frequent rights issues raising capital for non-legit reasons.
  • Shares buybacks, often at high prices, camouflaging company earnings and other issues.
  • Fraud, legal issues, or massive fines causing a dent on the company’s reputation and profits.

One Off Items

  • A large one time gain (or impairment) skewing the numbers for a quarter or financial year.
  • Not sustainable long-term advantages.

Balance Sheet

  • Overly high amount of borrowings causing the company to bleed paying just the interest on debt.
  • When a downturn (eventually) happens, will be one of the first casualties.

Industry Overcapacity

  • Overly high competition eroding profitability.
  • Frequently in industries with low barriers to entry and little product differentiation.
  • Affected by competitors who can produce in significantly larger quantities at cut-throat margins.

 

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Are we seeing many Bursa Malaysia stocks in a value trap situation in today’s market?

Donkey Stock

Donkey Stock

Contributor at Donkey Stock
Donkey Stock is Malaysia's 1st company that specializes in creating financial infographics. We create contents on market insights, company analysis, stock investment guides and property investment guides.
Donkey Stock

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Donkey Stock

Donkey Stock

Donkey Stock is Malaysia's 1st company that specializes in creating financial infographics. We create contents on market insights, company analysis, stock investment guides and property investment guides.

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