Let me start with an admission that I am not the first one exploring the death of value investing. Several analysts have expressed their opinion over the demise of value investing. One may scoff at the proclamation, but then when Warren Buffett, arguably the best value investor of all times has underperformed for a decade, it would be worthwhile to critically examine value investing. Incidentally, Ashwath Damodaran, popularly known as the ‘dean of valuation’ has also expressed his views on value investing.
Speaking with ETNow, Damodaran said that over the last decade, value investing has ‘lost out’ to growth investing. He added that stocks with low PE and high dividend yields ‘have been hurt the most’
There is no denying that growth stocks have outperformed the markets over the last decade. Stocks like Amazon, Netflix, and Tesla which have delivered splendid returns might find it hard to find a place in a value investors portfolio. There are several reasons that we can outline for the outperformance of growth stocks as compared to value stocks.
First of all, growth has been scarce. Tesla is a perfect example. Growth rates in the automotive industry have been dismal and we are instead looking at degrowth. On the other hand, we have a company like Tesla which offers growth rates exceeding 40% every year. But then, it comes with astronomical PE multiples. Even Damodaran valued the stock at less than half its current prices earlier this year under his ‘optimistic scenario’
Interest rates in the US and other developed markets never really normalized since 2008. While the US Fed embarked on tightening in 2015, it abandoned the tightening cycle last year and instead took to easing. In March, the Fed lowered rates back to zero bound where they were between 2008 and 2015. Now, low interest rates impact stocks in multiple ways. As borrowing has been cheap, a lot of money has found its way into growth stocks chasing higher returns. Furthermore, the underperformance of value stocks has meant that more investors are embracing growth stocks.
Theoretically, given the low interest rate environment, investors should have found solace in value stocks, many of which give high dividends. However, that hasn’t been the case.
Notably, a lot of value stocks with low valuation multiples are established companies that once had strong brands. However, over the last decade, established business models have got challenged. Ecommerce has changed the way we shop while OTT has redefined entertainment. In the consumer space also, new brands are eating into revenues of established brands. Also, consumers are shifting to healthier alternatives. As for banking, fintech companies are changing the way we bank.
Again, going back to our first argument. The new-age companies solve the problems of our age. Since their products are in high demand, so are the shares. As the simple demand-supply rule goes, more people chasing these companies push up the valuation.
Coming back to our question, value investing would never be dead. However, the concept of value might change. From just looking at low PE multiples and high dividend yield, value investors might also have to look at the underappreciated value. For instance, in Tesla’s case, it would be its brand, the autopilot, or the upcoming projects like the Robotaxi. That said, Tesla looks overvalued at these prices.
Low interest rates, technological advancements, consumer preference changes, and frugal global growth are here to stay for good. Given the background, value investment strategies should also evolve accordingly. Read The Perils of Consensus Investing: Key Takeaways for more insights on investing strategies.
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