Wednesday, January 10, 2007

Invest in Value - Long Term Outperformance

Since starting my career in Financial Planning I have heard many investment analysts proclaiming that this asset class or that asset class will be the next winner. "Technology - its the future." "Resources - demand is inexhaustible." Gold, Euros, and on and on.

Until I read the book "The Intelligent Investor" by Benjamin Graham I often put a lot of weight on what these analysts were saying. What I realized is that the analysts don't have a clue a lot of the time and very few investment managers, securities analysts or fortune tellers actually beat the market consistently. Only one investment style has consistently beat the market and made people like Warren Buffett among the richest people in the world.

What am I talking about? Value Investing.

Value investing has beat the broader market consistently over the past 75 years with lower volitility than the broader market. This chart shows the past 12 years and the comparison between the broader index, growth stocks, and value stock. Clearly value wins. Over 10 years the broader index returned 8.42% (not bad), the growth stock index returned 5.2%, and value returned 10.8% for a wide margin of outperformance. Even over longer periods of time (40 years +) value outperforms growth by approximately 4% and the broader index by approximately 2%.

A Value investor follows a few simple guidelines for picking investments and then has the convictions to follow through on his or her analysis.

Real estate and other investments can flow through this same decision making process to assist the investor in making rational decisions about his or her investments. For example, good questions to ask are: What is the P/E ratio? P/B ratio? Stability? Realistic growth prospects? I'll post more about this investment style next week and I'm thinking of having a regular Wednesday posting generally about investing. What do you think?


solipsist said...

I think that is a great post.

Value investing, or value buying are my ideas of reasonable behaviour. Sadly, the age of reason seems to have left us some time ago. I don't know that people even make those distinctions any more.

mohican said...

"The individual investor should act consistently as an investor and not as a speculator. This means.. that he should be able to justify every purchase he makes and each price he pays by impersonal, objective reasoning that satisfies him that he is getting more than his money's worth for his purchase."
Benjamin Graham

It indeed seems as if reasonable behaviour is too much to ask many days. From the personal experience of sitting down with many individuals one on one to discuss finances I can say this is factually true of most people.

Jesse said...

You should also touch on the concept of re-distribution (as opposed to market timing: I assume there is a difference).

solipsist said...

You should also touch on the concept of re-distribution...

Are you alluding to the re-distribution of wealth? That is a thing that has been squatting in the back 40 of my mind for a while, and I hope to discuss that at some point.

I've already been labeled as a bear, conspiracy theorist and a Democrat, so I am close to throwing caution to the wind, and going on an extended rant about that.