The more the world changes, the more value investing remains a compelling investment strategy. Here’s why
“Plus ça change, plus c’est la même chose”. Or, in English: “The more things change, the more they stay the same”.
Nowhere is this more true than in the realm of value investing.
Throughout history, humankind has faced profound changes – from the advent of domestic electricity and the development of cars, to the creation of computers, calculators and the internet. While life as we know it has changed radically over the last 100 years, one thing has stayed the same: human beings.
The tendency of humans to make emotionally-driven investment decisions means that markets are cheap when we’re fearful, and expensive when we’re greedy. This creates a market backdrop against which value investing as a style has consistently delivered.
We’ve put together four charts that show this.
We’ve based the analysis on portfolios that have been rebalanced annually using two independent sorts: on size (market equity, ME) and book-to-market (the ratio of book equity to market equity, BE/ME).
Book equity – also known as book value – is the theoretical value of all a company’s assets minus all its debts and obligations. Market equity, meanwhile, is the same as market capitalisation; that is, the total value of all a company’s outstanding shares in the market.
The BE/ME breakpoints (which determine the buy range for the growth, neutral, and value portfolios) are the 30th and 70th percentiles. In short, the portfolios are rebalanced annually so the data in the chart is always showing value, which is defined as the cheapest 30% of the market.
Chart 1 shows just how well value has performed over the long term: if you’d invested $10,000 in June 1926, your investment would be worth over $1 billion today. This compares to the $94.7 million your investment would have grown to had you bought the expensive growth shares.
Chart 1: The return advantage from buying cheap shares
But what happens if we look at returns over shorter time periods, because not many investors have a 100-year investment horizon? Charts 2 shows that decade after decade, value investing beat the market and delivered positive returns. The decade from 2010 to 2020 is clearly an outlier ( a depressing one), but given the chart shows 5-year forward rolling returns, there is still 3 years of data until the 2010 to 2020 data is complete, and therefore time for it to get the right side of the horizontal line!
Chart 2: Value’s recent underperformance is the exception, not the norm
We can look at this over an even shorter investment horizon. Chart 3 shows that value has outperformed the market in 84% of 5-year time periods since June 1926.
Chart 3: Value outperforms in vast majority of 5-year time periods
Finally, the size of the relative opportunity today is greater than at any point in history. Chart 4 shows that valuations of value versus growth are very near all-time lows.
Although markets had corrected significantly by the time this chart was compiled (April 2022), the gap in valuations remains very large.
Chart 4: Relative opportunity is extreme today
While history isn’t a guide to future performance, it can offer us valuable lessons. And we believe the key lesson from nearly 100 years worth of history, is that the more things change, the more they stay the same. The more the world changes, the more value investing remains a compelling investment strategy.