Value Investing: Is Life Imitating Art?

Perhaps no other style of investing possesses the same degree of lore, scholarship, and celebrity as value investing. While names such as David Einhorn, Seth Klarman, and Joel Greenblatt may be household ones among diehards, Warren Buffett certainly has broad recognition even outside of the investment community. Value investing even has its very own, bona fide bible. Yet, despite all the study, the books, the courses, the chat rooms, the podcasts, and investment clubs dedicated to the craft, value investing’s track record in the post-financial-crisis world is underwhelming. What’s going on here? Is value investing dead, or is life merely imitating art?

Source: Financial Times

For the uninitiated, value investing is a contrarian style of investing. It is most notably used within the equity world, and hence that is how I will discuss the topic for the remainder of this article (though it has been empirically studied in other markets as well). Plain and simple, value investing entails buying “cheap” securities in hope of profiting from their eventual recovery in valuation. Typically, these are stocks in companies that have been “left for dead”, and often for valid reasons. Central to the idea is that fundamentals, and hence valuations, mean revert, for reasons that are beyond the scope of this article. Thus, the value investor profits when the business prospects for challenged companies improve.

While not a professional pursuit of mine, I have developed a deep affinity for the value investing framework. Perhaps stemming from my naturally risk averse investment approach, affinity for contrarian thinking, obnoxious pursuit of doing things the hard way, aversion to crowds, or my healthy skepticism with respect to making accurate predictions, whatever the case(s) may be, value investing resonates with me. As Li Lu of Himalaya Capital once remarked, “[you] either get [value investing] right away or [you] don’t get it at all.”

However, these are not the golden years of value investing. Valuations in the U.S. equity markets have been elevated (by most accounts) and have only gotten more expensive over the years. As a result, the style’s returns have lagged others, making many of those household names to look foolish, and even openly mocked. Value investors find themselves in an unprecedented slump.

On one measure developed by Fama and French, there have been three significant bear markets for value in the last 90 years: the Great Depression of the 30s, the Tech Bubble of the 90s and post-GFC. The most recent episode is the most extreme on record.

— Tobias Carlisle (@Greenbackd) June 27, 2018