VALUE TRAPS IN STOCK INVESTING

A "value trap" refers to a stock that appears cheap—often due to a low price-to-earnings (PE) ratio following a significant price drop—but is actually a poor investment because the underlying business is deteriorating, evidenced by declining revenues, shrinking profits, and decreasing or negative free cash flow; in other words, "cheap crap is still crap." True value investing, according to the speaker, means only buying stocks that are temporarily undervalued due to short-term issues but are backed by high-quality companies with strong fundamentals—such as growing revenues, increasing profits, rising free cash flow, and high returns on capital—because only these are likely to recover and deliver long-term returns, whereas businesses in decline rarely bounce back even if their stock prices seem attractively low.

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