Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 122

Learning when to buy and sell shares

At a recent talk I gave at the Australian Investors Association’s National Conference, I received one question more than any other: “Is it time to buy BHP?” Obstreperous commentators - paid by commissions on activity rather than returns – are incentivised to make headlines calling the bottom of the resource slump.

Price contains no information about value

Highly leveraged commodity producers with negative free cash flows, like America’s largest coal producer Alpha Coal, have filed for Chapter 11 bankruptcy protection, amid a steel oversupply emanating from China, and slumping commodity prices. This is the shot-across-the-bow for Vale and Fortescue, and places a darkening cloud above the prospects and future returns for BHP and Rio because highly leveraged producers must produce even more of the commodity amid declining prices to meet their interest expenses.

But these arguments are in fact superficial. At the core of the question is a lack of understanding of the difference between price and intrinsic value. Value is not presented simply because a share price has fallen. Price information is free and the reason it is free is because it contains no information about value.

Predicting share prices, which is in essence what the resource commentators are trying to do, is impossible to do consistently well, at least in the short-term.

Intrinsic value is the vessel that helps navigate the sometimes tempestuous changes in share prices. If you have formed your view on the intrinsic value of a company, you can navigate clearly through the thunder and high seas, the gloom and the hype.

Your share portfolio may still be buffeted around by the twin tides of fashion and sentiment, but with each rise and fall you are able to strengthen it, buying more below intrinsic value and perhaps selling when share prices are well above.

Suppose you have your eye on a company and its shares fall from $15 to $12. Should you buy now? What if you buy at $12 and the shares fall to $10? Suppose you decide to buy more. What if they then decline even further to $8 or even $6? When exactly do you buy?

Only if you are confident that the business is actually worth $15 per share are you able to see a fall in the share price – from $12 to $6, for example – for what it is: a terrific opportunity. The right response is to buy more. If you’re like me and you like chocolate, then surely it is rational to order more when your favourite block is on ‘special’ at the supermarket? It’s the same with shares.

Shares are like groceries

Treat buying shares the same way you buy groceries. You actually want the share price to go down so that you can buy more. Share price declines, particularly those that are produced when everyone around you sees only doom and gloom ahead, are precisely what you want.

But how do you know the shares are cheap? Without the beacon of intrinsic value, how do you know whether to buy more or to panic? Many investors don’t know the value of their shares. They frequently panic when shares fall, and also suffer from the consequences of paying too much.

I have often asked an audience of investors the following question, ‘If the shares of (insert your favourite company) were trading at half price today, would you buy them?’ The response is both rapid and enthusiastic, ‘Yes!’ And yet, sometime later, when the share price does indeed fall 50%, only a small handful of the original group ever buy the shares. Why is that? It is because share prices only fall 50% when there is bad news, either about the company being considered or about the economy or market more generally. And unfortunately, such news often perverts good ideas to bad ones. What was seen initially as a brilliant opportunity becomes a high risk ‘play’ that should be avoided until there is more certainty (and a higher price of course).

Your mother probably told you that first impressions are usually correct. She may not have been talking about shares on sale, but she was right again. What is good advice for choosing friends is also good for selecting shares.

The challenge is knowing when to buy

The easier part of investing is knowing what to buy. For example, is it really so difficult to see that CSL is a better business than Slater & Gordon? Is it that challenging to see that an investor should favour the fund manager Platinum Asset Management over Qantas?

The challenging part of investing isn’t identifying good businesses that you would like to own. The challenging part is knowing when to buy, while the prices of all these companies are gyrating amid noise and influences that may or may not ever impact their businesses.

Nobody should miss out on buying shares in great businesses because of the fear that the shares will go down even more. And there is no need to panic and sell at depressed prices either. But such rational behaviour requires you to have something other than the price to look at. You need to know the value of the business and its shares.

Of course in order to value a company’s shares, one needs to be aware of and have appraised the prospects for the business and its products or services. When the price of iron ore was $140 per tonne, we challenged the notion that the long run average would bear any resemblance to the then recent prices. Indeed at $140, we thought $40 per tonne was more likely to eventuate. We now believe the prospects for Australia and the resource sector are likely to worsen and so we arrive at valuations for resource companies that are much lower than current prices.

 

Roger Montgomery is the Founder and Chief Investment Officer at The Montgomery Fund, and author of the bestseller ‘Value.able’. This article is for general educational purposes and does not consider the specific needs of any investor.

 

4 Comments
Alex
August 14, 2015

Depends on what your philosophy for investing is. If you are a yield investor like I am, Roger is completely on the ball with this. My whole philosophy of investing is based around this concept, build up a strong core portfolio and add to it when the market heads down. It's the best time to buy, not much good if you're just speculating, but if you are adding to a proven stock, you will do well. If you've held a stock long term, you should have a pretty good idea of what its intrinsic value is to you, and when to add to it. I've followed this philosophy for 30 years, and its worked really well. The GFC presented one of the greatest bargain sales that we'll ever see!

Dean Tipping
August 21, 2015

Well said Alex...if you could buy a Rolls Royce for the price of a Commodore you'd buy 10 of them!!

Graeme
August 13, 2015

Can't agree with Roger on this one. If I buy a tin of XYZ brand baked beans now for $3, next year for $2 or in a couple of years time for $4 there's a pretty good chance I'll be getting exactly the same product. Thanks to Jerome's disruption and obsolesence etc factors, there's a high probability that the shares current earnings will have changed and prospective earnings changed even more. It may have the same ASX code, but that's about it.

Jerome Lander
August 13, 2015

Valuation is an imprecise art. A range of values might well be more meaningful than a single point estimate.

Interestingly enough, most fund managers that double down on stocks that are falling tend to do badly over the long term according to my research. Reason being that while they might think they know the value of the business, they may well be mistaken. By doubling down they may take significant risk of throwing good capital after bad and losing large amounts on individual positions; what is infamously known as chasing losers. Remember ultimately all prices go down on their way to zero! "Quality" businesses are increasingly at risk from disruption, obsolescence etc, often by factors that are missed or easily misunderstood by analysts. Quality changes over time and is not a static concept.

 

Leave a Comment:

RELATED ARTICLES

Adapting to buying shares when markets fall

Estimating a share’s intrinsic value 101

Feel the fear and buy anyway

banner

Most viewed in recent weeks

Raising the GST to 15%

Treasurer Jim Chalmers aims to tackle tax reform but faces challenges. Previous reviews struggled due to political sensitivities, highlighting the need for comprehensive and politically feasible change.

Here's what should replace the $3 million super tax

With Div. 296 looming, is there a smarter way to tax superannuation? This proposes a fairer, income-linked alternative that respects compounding, ensures predictability, and avoids taxing unrealised capital gains. 

100 Aussies: seven charts on who earns, pays, and owns

The Labor government is talking up tax reform to lift Australia’s ailing economic growth. Before any changes are made, it’s important to know who pays tax, who owns assets, and how much people have in their super for retirement.

The rubbery numbers behind super tax concessions

In selling the super tax, Labor has repeated Treasury claims of there being $50 billion in super tax concessions annually, mostly flowing to high-income earners. This figure is vastly overstated.

9 winning investment strategies

There are many ways to invest in stocks, but some strategies are more effective than others. Here are nine tried and tested investment approaches - choosing one of these can improve your chances of reaching your financial goals.

With markets near record highs, here's what you should do with your portfolio

Markets have weathered geopolitical turmoil, hitting near record highs. Investors face tough decisions on valuations, asset concentration, and strategic portfolio rebalancing for risk control and future returns.

Latest Updates

Taxation

100 Aussies: seven charts on who earns, pays, and owns

The Labor government is talking up tax reform to lift Australia’s ailing economic growth. Before any changes are made, it’s important to know who pays tax, who owns assets, and how much people have in their super for retirement.

7 key charts on the state of the Australian property market

The Australian property market stirs fierce debate - often bullish optimism versus crash predictions. But beyond the noise, seven charts reveal what's really driving prices and the outlook for residential real estate.

A simple alternative to the $3 million super tax

Division 296 aims to introduce improved fairness into the superannuation system, yet is overly complex. This scours the world for better ideas and suggests a simpler alternative which can achieve the same goals.

CBA and the index conundrum for super funds

After the hyperbolic rise in CBA shares, super funds are floating the idea of carving out the weightings of ASX bank securities and indexing them within their portfolios. This looks at why that might be a big error.

Strategy

10 policies to drive Australian productivity higher

Here's a comprehensive list of proposed reforms to fix Australia's stagnating economy, including introducing a flat income tax rate, reducing migration, and making childcare tax-deductible.

Interviews

Where to find big winners in Asia

As more money looks for a home outside the US, Asia may soon get some love. Fidelity's Anthony Srom outlines the best places in Asia to invest, including in Chinese consumer names, Indian financials, and Thailand.

Investment strategies

We have trouble understanding the time value of money

We overvalue the present and underestimate the future - it’s a cognitive glitch called hyperbolic discounting. It affects savings, spending, and loans, and it's more common - and costly - than we think. 

Sponsors

Alliances

© 2025 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. To the extent any content is general advice, it has been prepared for clients of Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892), without reference to your financial objectives, situation or needs. For more information refer to our Financial Services Guide. You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.