Value vs Growth Investing : Latest Memo from Howard Marks
What is Value Investing?
Value
investing is one of the key disciplines in the world of investing. It consists
of quantifying what something is worth intrinsically, based primarily on its fundamental,
cash flow-generating capabilities, and buying it if its price represents a
meaningful discount from that value.
Importantly,
value investors recognize that the securities they buy are not just pieces of
paper, but rather ownership stakes in (or, in the case of credit, claims on)
actual businesses.
Now,
determining this value in practice is quite challenging, and the key to success
lies not in the ability to perform a mathematical calculation, but rather in
making superior judgments regarding the relevant inputs. Simply put, the DCF
method is the main tool of all value investors in their effort to make
investment decisions based on companies’ long-term fundamentals.
Value
vs. Growth
Over the last 80-90 years, two important developments occurred with regard to investing style. The first was the establishment of value investing, as described above. Next came “growth investing,” targeting a new breed of companies that were expected to grow rapidly and were accorded high valuation metrics in recognition of their exceptional long-term potential.
The two
approaches – value and growth – have divided the investment world for the last
fifty years. They have become not only schools of investing thought, but
also labels used to differentiate products, managers and organizations.
Based on this distinction, a persistent scoreboard is maintained measuring the
performance of one camp against the other. Today it shows that the
performance of value investing lagged that of growth investing over the past
decade-plus (and massively so in 2020), leading some to declare value investing
permanently dead while others assert that its great resurgence is just around
the corner. My belief, especially after some deep reflection over the
past year – is that the two should never have been viewed as mutually exclusive to
begin with.
As
Buffett put it, “We don’t consider ourselves to be value investors. . . .
Discounted cash proceeds is the appropriate way to value any business. . .
. There is no such thing in our minds as value and growth
investing.” It just so happened that considerable opportunity existed for
them in the cigar butt arena at the time they operated – especially considering
that both started with relatively small amounts of money with which to invest –
so that’s what they emphasized
When
I consider this new world, I think fundamental investors need to be willing to
thoroughly examine situations – including those with heavy dependency on
intangible assets and growth into the distant future – with the goal of
achieving real insight. However, this is, to an extent, antithetical to
the value investor’s mentality. Part of what makes up the
value investor’s mindset is insistence on observable value in the here-and-now
and an aversion to things that seem ephemeral or uncertain. Many
of the great bonanzas for value investors have come in periods of panic
following the bursting of bubbles, and this fact has probably led value
investors to be very sceptical of market exuberance, especially when concerning
companies whose assets are intangible. Scepticism is important
for any investor; it’s always essential to challenge assumptions, avoid herd
mentality and think independently. Scepticism keeps investors safe and
helps them avoid things that are “too good to be true.”
But
I also think scepticism can lead to knee-jerk dismissiveness. While it’s
important not to lose your scepticism, it’s also very important in this new
world to be curious, look deeply into things and seek to truly understand them
from the bottom up, rather than dismissing them out of hand. I worry that
value investing can lead to the rote application of formulas and that, in times
of great change, applying formulas that are based on past experience and models
of the prior world can lead to massive error.
But
by far the most important intention of this memo is to explore the mindset that
I think will prove most successful for value investors over the coming decades,
regardless of what the market does in the years just ahead. It’s important
to note that (a) the potential range of outcomes for many of today’s companies
is very wide and (b) there are considerations with enormous implications for
the ultimate value of many companies that do not show up in readily available
quantitative metrics. They include superior technology, competitive
advantage, latent earning power, the value of human capital as opposed to capital
equipment, and the potential option value of future growth opportunities.
In other words, determining the appropriateness of the market price of
companies today requires deep micro-understanding, and that makes it virtually
impossible to opine on the valuation of a rapidly growing company from 30,000
feet or by applying traditional value parameters to superficial
projections. Some of today’s lofty valuations are probably more than justified
by future prospects, while others are laughable – just as certain companies
that carry low valuations can be facing imminent demise, while others are just
momentarily impaired. The key, as always, is to
understand how today’s market price relates to the company’s broadly defined
intrinsic value, including its prospects.
- First, the
apparent ease of predicting traditional Company A’s future can be quite
deceptive –
for example, considerable uncertainty can exist regarding its risk of
being disrupted by technology or seeing its products innovated out of
existence. On the other hand, while Company B is more nascent, its
products’ strength and traction in the marketplace may make success highly
likely.
- Second, as
noted earlier, if conclusions regarding Company A’s potential can easily
be reached by a finance student with a laptop, how valuable can such
conclusions be? Shouldn’t
a deep understanding of a company’s qualitative dynamics and future potential
be a greater source of advantage in making correct forecasts than data
which is readily available to all?
Value investing is thought of as trying to put a precise value on the low-priced securities of possibly mundane companies and buying if their price is lower. And growth investing is thought of as buying on the basis of blue-sky estimates regarding the potential of highly promising companies and paying high valuations as the price of their potential. Rather than being defined as one side of this artificial dichotomy, value investing should instead consist of buying whatever represents a better value proposition, taking all factors into account.
Much
of value investing is based on the assumption of “reversion to the mean.” In other
words, “what goes up must come down” (and what comes down must go up).
Value investors often look for bargains among the things that have come
down. Their goal, of course, is to buy under-priced assets and capture
the discounts. But then, by definition, their potential gain is largely
limited to the amount of the discount. Once they have benefitted from the
closing of the valuation gap, “the juice is out of the orange,” so they should
sell and move on to the next situation.
To
end, I’ll pull together what I consider the key conclusions:
- Value
investing doesn’t have to be about low valuation metrics. Value can be
found in many forms.The fact that a company grows rapidly, relies on
intangibles such as technology for its success and/or has a high p/e ratio
shouldn’t mean it can’t be invested in on the basis of intrinsic value.
- Many sources
of potential value can’t be reduced to a number. As Albert Einstein
purportedly said, “Not everything that counts can be counted, and not
everything that can be counted counts.” The fact that something
can’t be predicted with precision doesn’t mean it isn’t real.
- Since
quantitative information regarding the present is so readily available,
success in the highly competitive field of investing is more likely to be
the result of superior judgments about qualitative factors and future
events.
- The fact
that a company is expected to grow rapidly doesn’t mean it’s
unpredictable, and the fact that another has a history of steady growth
doesn’t mean it can’t run into trouble.
- The fact
that a security carries high valuation metrics doesn’t mean it’s
overpriced, and the fact that another has low valuation metrics doesn’t
mean it’s a bargain.
- Not all
companies that are expected to grow rapidly will do so. But it’s very
hard to fully appreciate and fully value the ones that will.
- If you find
a company with the proverbial license to print money, don’t start selling
its shares simply because they’ve shown some appreciation. You won’t
find many such winners in your lifetime, and you should get the most out
of those you do find.
I
once asked a well-known value investor how he could hold the stocks of
fast-growing companies like Amazon – not today, when they’re acknowledged
winners, but rather two decades ago. His answer was simple: “They looked
like value to me.” I guess the answer is “value is where you find
it.”
‘------------ End of Quote ----
You may find the full article / memo on below Link :
Latest
memo from Howard Marks: Something of Value <source
: Oaktreecapital.com>
Howard Marks Says Fed Is
Pushing Investors Into Risky Assets
It is hard to draw a line to distinguish between ” Value or Growth”
investing, we could find growth in value stocks and vice versa. We may start to
see value emerge when price of growth stocks drops to an “unreasonable low”
level due to certain issues / event, which would temporarily affect the price.
Both value and growth stocks investing will still have many
“pitfalls “and investors may ended up being caught in “value trap and growth
trap (delusion)” in keep chasing the "value" without in-depth analysis of the business and fundamental of that company..
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<Image credit : bbc.com> |
Cheers !!
STE
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