The Great Value Rotation and the Strategy’s Evolution

The Great Value Rotation and the Strategy’s Evolution

Many market pundits and value investing advocates believe that value stocks are in line to reverse their long patch of underperformance, fueling a renewed debate about the strategy’s future that will “shape the philosophy’s evolution for years to come. “ This according to a recent article in Forbes.

The article points out that growth strategies have seen an “uncharacteristically rough stretch since the beginning of the year,” citing the following factors at play:

  • An economic recovery should bolster the earnings power of value stocks.
  • Price discrepancies between growth and value have reached “extreme levels.”
  • Fiscal stimulus and economic recovery could potentially “engender higher inflation and a rise in interest rates,” and higher rates have a negative impact on assets with longer duration cash flows (which disproportionately impact growth stock valuations since they depend heavily on future cash flow).

It notes, however, “an element to the value versus growth debate that requires further exploration,” stating that the evolution of the value investing strategy over the years represents an important component of its future.

The article outlines various points on the value strategy evolution’s timeline, including the early approach by Benjamin Graham and then the subsequent, broader strategy adopted by his apprentice Warren Buffett that incorporated the concepts of buying high-quality businesses with competitive edges. Later, it cites the more specialized approach of investors like Joel Greenblatt and Seth Klarman.

“While these value investing styles differ in many ways,” the article notes, they all rely on the historical record of a company to unlock the puzzle between intrinsic value and price,” highlighting how computer algorithms, “programmatic trading” and factor-based strategies have arbitraged away value premiums that exist on “easy-to-identify valuation discrepancies.”

What, then, lies ahead for the value strategy?

The article predicts that it will become “less about finding stocks that are visibly cheap or successful based on GAAP accounting data and more about finding value that is hidden from plain view. For avoiding value traps, it will be about finding value destruction that is hidden from plain view.”

“Avoiding mistakes,” the article asserts, “will require an understanding of fragility to future states not easily understood by the market,” which require sharp analytical skills, as well as knowledge of how human biases affect pricing. As humans are “prone to biases in making decisions under uncertainty, value investing will remain alive and well,” the article concludes, but argues that exploiting those biases “may require a new set of skills.”