Archives For Long-Term Investments

Quiz!

Which of the following are true about US stocks (multiple answers may be correct)?

  1. Value stocks outperformed growth stocks in the past 90 years.
  2. Value stocks have become more expensive than growth stocks.
  3. Growth stocks grow faster than value stocks.

Value Investing Is Alive and More Appealing Than Typical

I’ve seen a number of articles declaring US value investing dead.

What is Value Investing? Value investing refers to buying companies with low stock prices relative to their intrinsic value, or book value (i.e. low Price/Book or P/B). Over the past 90 years, the collective of US value stocks outperformed growth (high Price/Book) stocks.

Why would people question value investing now? US Value stocks have underperformed US Growth (high Price/Book) stocks for the past 10 years – long enough for people to believe that maybe there is a new normal and value stocks will underperform growth stocks moving forward.

What is the theory for the new normal? The theory is that value investing became more commonplace, and the extra investing in value stocks led to bidding up their prices and eliminating the excess-return benefit compared to growth stocks.

Let’s test the theory. If the theory is right, the prices of value stocks increased all the way to match the prices of growth stocks (by definition, they cannot be any higher), eliminating the pricing benefit. It turns out that the opposite is true: the discount in Price/Book of value stocks increased significantly in the past 10 years.

Conclusion. The theory that value investing is dead due to overcrowding fails a simple math test. Based on the test, the opposite seems true, supporting the notion that the underperformance is part of a cycle, and value investing may enjoy greater excess returns than typical in upcoming years.

Implications for other investments. There are 2 other investment categories that show potential promise thanks to a similar simple mathematical test: US Small stocks & Emerging Markets stocks.

Quiz Answer:

Which of the following are true (multiple answers may be correct)?

  1. Value stocks outperformed growth stocks in the past 90 years. [The Correct Answer]
  2. Value stocks have become more expensive than growth stocks.
  3. Growth stocks grow faster than value stocks.

Explanations:

  1. This has been correct in the US for the past 90 years, and in other countries for decades.
  2. The opposite is true: value stocks are enjoying lower valuations (Price/Book, or price relative to the intrinsic value) today than in recent years.
  3. This has been true in the past 10 years in the US, but not in the long run.
Disclosures Including Backtested Performance Data