Value Investors look out for good/great companies trading at low multiples (be it earnings/book or cash flow). Investors looking for bargain may get attracted to stocks trading at low multiples for a considerable period of time.
Value trap occurs when the investors lock into the stock at low multiples and the price discovery never happens and the stock price does not budge.
This may happen for any reason such as the whole sector being looked down, or the company / sector in trouble or truly the market not discovering the potential of the stock, inability of the company to withstand competition/technological changes, inability to generate consistent profits etc. There could be many reasons for a value trap happening.
Question is , how should the investor proactively manage the positions in such a situation.
Benjamin Graham has Stock selection criteria & avoiding value traps
According to Benjamin Graham ~ If the stock does not give you 50% in 3 years, sell it – its most likely a value trap. Nice rule to deal with uncertainty
As with any investment decision, thorough evaluation and research is required to avoid value traps