Some of these value traps do have great embedded value but nothing has been done to grow this value sustainably and allow it to translate into actual healthy returns for shareholders.The firms should maybe seek new income streams, get into M&As or expand in a big way to new markets.
MANY stocks on Bursa Malaysia often appear cheap with a lot of upside potential but sometimes it’s just too good to be true.
These stocks often trade at huge discounts to their book values, have low comparative price to earnings ratios and trail far behind their peers when it comes to share price performance and yields.
While it may make some sense to buy such stocks, a “cheap” stock can also mean a value trap, meaning it is merely masquerading as a compelling buy.
A value trap stock will not see its share price increasing for an extended period of time.
The company may have assets and some earnings but its share price trend would have been, and is likely to continue to be, stagnant for some time. An investor cannot gain much unless there is a corporate exercise that may breathe some life into the company’s shares.Often, after an investor buys into a value trap, it will drop further.
Some examples of value traps on Bursa over the last few years are Chin Teck Plantations
, Focus Lumber, Evergreen Fibreboard, KSL Holdings and Keck Seng.
Just this week, asset-rich Insas attracted a lot of attention. Many perceive it to be an example of a value trap.
The company has been trading way below its book value for a very long time. After a media article which arti- culated the “hidden” values in Insas this week, investors ploughed into the stock, pushing its value up by double digits.
Notably, Insas’ 14.4% stake in another company, Inari, alone is worth RM1.7bil, based on the price of RM3.15 per Inari share on Jan 14.
To be sure, the so-called hidden values of Insas have been the subject of media articles periodically over the years.
Why the price discount?
In general, companies trade at substantial discounts to their book values because the market perceives them to be incapable of growing profitability or asset values.
External economic factors also contribute to these stocks becoming traps. These factors may not be exclusive to these companies, but they are perceived as being more susceptible. On the contrary, take a look at Berkshire Hathaway, a holding company managed by astute global investor Warren Buffett.
Berkshire owns a range of private businesses and significant minority interests in public firms such as Apple Inc, Bank of America Corp, Chevron, The Coca-Cola Company and the American Express Company.
The group has a market cap of more than US$700bil and constantly trades at a premium to its book value. Why is that?
This is largely because Berkshire has been able to demonstrate to investors time and again that its asset value will continue to grow, hence the basis for its premium.
Having assets is one thing but this needs to translate into actual growth in value that can be enjoyed by all shareholders.
Value traps are not exclusive to companies.
Within Asia, the South Korean market for instance, has long been associated with the term.
It appears to be largely because of geopolitical risks, no thanks to North Korea, as well as issues with foreign investor interest and corporate structures.
Many South Korean companies are chaebols, which refer to huge family conglomerates that are heavily controlled and often associated with poor corporate governance and transparency.
Such heavy control tends to leave little freedom for investors to have any say in the goings-on of a chaebol, thus making them unpalatable investments.
Market pundits reckon that over the long-term, South Korean shares may become more attractive after reforms in its capital market.
The country, known for its “soft power” which comes in the form of dramas, movies and songs, does actually have several compelling traits and its financial sector needs to leverage on these to attract more foreign investor interest.
The same principle can be applied to value traps on Bursa.
Some of these value traps do have great embedded value but nothing has been done to grow this value sustainably and allow it to translate into actual healthy returns for shareholders.The firms should maybe seek new income streams, get into M&As or expand in a big way to new markets.
Or perhaps the companies could start with a corporate exercise to jolt their shares from slumber, attract some interest and allow some of the tired, trapped investors to exit after what seems like a lifetime.
This article first appeared in Star Biz7 weekly edition.
