What it means
A value fund is defined by its investment style, not by its legal structure. The manager screens for companies trading at low multiples of profit or book value, buys them, and waits for the market to reprice them upward.
The appeal is straightforward: if you buy a stream of profits cheaply, you need less good news to make money than if you pay a premium price. That patience is also the drawback, because a cheap share can stay cheap for years, and value funds often lag badly during periods when investors are paying up for growth stories.
In practice, value funds cluster in mature industries such as banking, insurance, energy, industrials and utilities. They tend to hold more dividend payers than growth funds do, which means a larger share of the total return arrives as cash income rather than as share price appreciation.
Managers of value funds usually try to separate genuinely underpriced businesses from ones that are cheap for good reason. A company whose profits are permanently shrinking is not a bargain, and buying it is the classic error known as a value trap.
Fees and structure matter as much as style. Actively managed value funds charge more than index-tracking value ETFs, which simply follow a published rulebook such as ranking a market index by price-to-book and holding the cheapest half.
In practice
Real-world examples.
Example
A pension trustee reviewing a scheme's equity allocation notices it is entirely in growth funds. She adds a value fund at 25% of the equity sleeve so the scheme owns cheaper, dividend-paying banks and industrials alongside its technology exposure.
Example
A software founder who has just sold his company puts part of the proceeds into a low-cost value ETF. He accepts that it may underperform in a strong growth market but wants an allocation whose returns do not move in lockstep with the tech sector that made him wealthy.
Example
A regional wealth adviser explains to a retired client why her value fund is down 4% while the broad market is up 11%. He shows her that the fund's holdings now yield 4.1% in dividends, and that the income keeps arriving whether or not the market repricing happens this year.
Think of it
“Value fund buys cheap stocks-companies trading below their worth.
Formula
Calculation
The core number quoted for any fund is its net asset value per share, or NAV:
NAV per share = (Total fund assets - Total fund liabilities) / Shares outstanding
Suppose the Harborline Value Fund holds a portfolio worth $850,000,000, owes $10,000,000 in accrued fees and pending trade settlements, and has 42,000,000 shares in issue.
Net assets = $850,000,000 - $10,000,000 = $840,000,000
NAV per share = $840,000,000 / 42,000,000 = $20.00
If the fund charges an annual expense ratio of 0.60%, an investor holding $50,000 pays $50,000 x 0.006 = $300 a year in fees, deducted gradually from the NAV rather than billed separately.Case study
Seen in the real world.
This is an illustrative, fictional example. Northgate Provident, an invented regional insurer, held its surplus reserves in a single growth-oriented equity fund. When the finance committee reviewed the portfolio, it found that three quarters of the fund's value sat in a dozen expensive shares, and that a sharp derating in that group would blow a hole in the reserves at exactly the wrong moment.
The committee moved 40% of the equity allocation into a value fund with an average price-to-earnings multiple of 11 against the growth fund's 29. For the first eighteen months the decision looked poor, as the value fund gained 3% while the growth fund gained 19%.
The following year, sentiment turned and expensive shares fell sharply. The value fund's smaller decline and its 3.8% dividend yield meant the reserves held up far better than they would have done under the old allocation, and the committee kept the split permanently.
Watch out
Common mistakes.
- Assuming a value fund is a low-risk fund. It holds equities, it can fall hard in a recession, and cheap cyclical businesses are often the most exposed when demand drops.
- Judging a value fund over one or two years. Value styles are famously streaky, and a fair assessment usually needs a full market cycle of five to ten years.
- Buying several value funds and thinking that is diversification. Value funds tend to hold the same cheap sectors, so three of them often give you one concentrated bet in triplicate.
Questions
People also ask.
What actually makes a share cheap enough for a value fund?
Most managers rank shares by price-to-earnings, price-to-book, free cash flow yield or dividend yield, then buy from the cheapest end of that ranking after checking the business is not in terminal decline.
Is a value fund the same as an income fund?
No, though they overlap heavily; an income fund is selected purely for dividend yield, while a value fund is selected for cheapness and simply tends to end up owning dividend payers.
Should I pick an active value fund or a value index fund?
Index versions are far cheaper and apply the same rules every year, while active versions cost more but can avoid the obvious traps, so the choice mainly turns on whether you believe the manager's judgement is worth the extra fee.
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