Is Value Investing Dead?

Is Value Investing Dead?
By Jordan DiPietro
January 14, 2010


Every year thousands of people make the trip to Omaha for Berkshire Hathaway's annual shareholder meeting. They come in fanatical droves -- from as far away as South Africa and Singapore -- to see the man whose extraordinary success has been largely attributed to one strategy: value investing.

Unfortunately, the original value crusaders, Benjamin Graham and David Dodd, are long gone, while Warren Buffett has become a touchstone in an investing landscape riddled with leveraged corpses, speculative traders, and overzealous CEOs.

We've squeezed almost every gem of wisdom from his meetings and transcripts, and we've analyzed his moves from every conceivable angle. All of this ultimately raises one question: Once Warren is gone, will the end of an era also mark the end of value investing?

Old school values
When Graham and Dodd's seminal piece, Security Analysis, was written in 1934, it was much easier to be a value investor.

First, the time was right. Still reeling from the Great Depression and unemployment of up to 25%, the Dow had lost about 90% of its value in three years. The tenets of Graham and Dodd -- to buy stocks for prices significantly below their intrinsic values and even their book values -- were especially applicable because prices were distorted, and many stocks were significantly undervalued.

Second, with most of the Dow 30 comprised of metal, oil, or manufacturers, balance sheets were pretty straightforward. Valuing stocks wasn't necessarily easy, but there were some pretty common elements to look for: book value, tangible assets, etc.

Third, if you look at all the value crusaders, they all share one unique attribute: tenacity. They had the doggedness to perform painstakingly tedious work, laboring over worksheets, completing arithmetic by hand. They just seemed to work, well, the hardest.

New school values
Seventy years have come and gone, and value investing has come under increasing criticism. In fact, I've seen money managers tell their clients that if their time horizon is less than two decades away, value investing is not for them.

Why? Take a look at the comparative performance of value versus growth over the last five years.

Indices
Top Holdings
2009 Return
3-Year Return
5-Year Return

Russell 1000 Value Index (IWD)
JPMorgan Chase (NYSE: JPM), General Electric (NYSE: GE)
19.2%
(7.9%)
(1%)

Russell 1000 Growth Index (IWF)
Cisco Systems (Nasdaq: CSCO), Wal-Mart (NYSE: WMT)
36.7%
(2.1%)
2.5%


What gives? Well, business is much more complex than it used to be. With intellectual property rights, patents, and licensing fees, studying balance sheets is a bit murky. Companies like Qualcomm (Nasdaq: QCOM), Pfizer (NYSE: PFE), and Merck (NYSE: MRK) are all wrapped up in intangibles, and its simply harder to predict future earnings.

In addition, the days of sweating over spreadsheets are over. Computer programs and stock screeners make it simple to find a company that fits a certain mold -- even the laymen can whittle down enormous loads of data and draw conclusions. The advantage of having the fortitude to do the "hard work" is gone, lost in a sea of statistics and a market inundated with information.

And finally, being a value investor requires a temperament few have -- especially given the above considerations. Asset manager Jean-Marie Eveillard said, in response to the question of why there aren't more value investors, given Buffett's success, "If you are a value investor, every now and then you lag, or experience what consultants call tracking error. It can be very painful. To be a value investor, you have to be willing to suffer pain."

So does this mean value investing is dead?

WWWD?
Value investing isn't dead -- but it's not going to look the same in the 21st century as it did in the 20th.

We just have to look at Buffett, who, like always, adapts to the times. As the market collapsed around us and blue chips fell by the wayside, he scooped up some $3 billion worth of General Electric, and recently invested in ExxonMobil and Nestle. He lent Goldman Sachs $5 billion and locked in 10% annual gains -- and of course negotiated an option that has already netted him close to $2.4 billion.

Deliberate, prudent, unyielding -- classic Buffett.

Today's market offers something unique to the 21st century -- a plethora of booms and busts. There have been more financial crashes in the last 30 years than in any other time period -- and that means there are price distortions that investors can take advantage of, just like Buffett has done lately. Value investing isn't dead, nor is it immaterial.

Don't get distracted by puzzling trading strategies or speculate on leveraged financials (thank you, Citigroup). Understand a business and invest in your area of competence -- when it's cheap.

And remember as well that the last five years don't dictate the future. From 1927-2005 (78 years!), value investing has outperformed both small and large cap growth stocks by a substantial margin. From 1975-2005, value stocks outperformed growth stocks in 12 out of 13 developing countries. Clearly, in both the U.S. and abroad, value reigns supreme.

So don't let the naysayers get you down -- there are still plenty of tremendous value stocks out there! Our Motley Fool Inside Value team practices what Warren preaches and scours the market for the best deals each month. This has been a difficult few years for our analysts, but they're still managing to beat the S&P 500 by over seven percentage points -- that's pretty impressive considering the challenging environment.

If you believe like we do that value investing is here to stay, and you want to...
http://www.fool.com/investing/value/2010/01/14/is-value-investing-dead.aspx