Andrew Sather is a US-based investor, and owner of the website http://einvestingforbeginners.com/. He created the “Value Trap Indicator” (VTI), a formula which helps investors determine whether a stock is a value trap. The formula which incorporates the analysis usually performed to find value stocks into a simple number.
I had asked Andrew over e-mail, whether there are any similarities or differences between the Altman Z-score and his VTI number. Andrew has written a blog article to explain.
He reproduced my e-mail query, in his blog article, as follows:
Tools like the Value Trap Indicator and Altman Z Score formula are geared toward doing just that.
Both tools are extremely efficient in avoiding companies that are about to go bankrupt. One of my readers is a stock analyst and interested in the differences between the two. Here’s his question and my answer.
I am an analyst and investor based in India. I came across your VTI book and website (yet to purchase the book).
While the idea of identifying value traps and differentiating them from value buys is great, what I need to know is whether the VT indicator is a number similar to the Altman Z-score. Indeed, how does your VTI differ from Z-score since the objective is somewhat similar, if not the same.
With warm regards,
The Value Trap Indicator is indeed a number similar to the Altman Z-score. Both aim to warn against a company that is about to go bankrupt. However, there are a few other features of the Value Trap Indicator that the Z score formula doesn’t have that proves to be very useful to the investor.
Both the Z score formula and the VTI formula are clearly great tools for investors wanting to avoid stocks headed towards bankruptcy.
However, there is a subtle difference in the two formulas.
The Value Trap Indicator, as stated above, warns of a company being a value trap.. With some of the cases ending in bankruptcy. Sometimes a stock is just a value trap and not headed to bankruptcy, due to being extremely overvalued with bubble-like characteristics.