What is a value trap?
A value trap refers to a stock that could have good valuation ratios, but may not be a value buy because it does not have good fundamentals. Such stocks, which may appear cheaply priced, may remain cheap for a long time or even fall. In the worst-case scenario, the price of the stock may never reach the same levels as it did when you bought it. This normally depends on the number of investors buying into the same stock.
Everyone loves a good bargain. There is something satisfying in the knowledge that you have found something priced for less than what it should otherwise be worth. In other words, you get a good bargain when you paid less than what you would usually expect to pay for the same item.
In investing terms, finding an undervalued stock is akin to finding a good bargain. An undervalued stock could be trading at a market price below its net asset value (NAV). However, buying low at times does not necessarily mean you may get to sell at a higher price. These are stocks are what we call “value traps”.
