By Elliot Turner
Wednesday, Dave Friedman posted an article on the WSCS about the “Value Investor’s Lament” and I want to take this opportunity to state my rebuttal and to open the question up for debate. The argument stemmed out of an analysis of Warren Buffett’s success and the prospects for any potential successor to replicate Buffett’s legendary performance. Dave offers the following observation:
Buffett’s success in finding undiscovered gems is a sort of repudiation of efficient market theory: Buffett made his billions finding stocks that the market hated, which is one way of saying that the market did not price assets efficiently. But, as with many other things, technology has wrought change: the amount of information available to investors dwarfs that available to the value investor of the 1960s and 1970s. Therefore, securities that were once looked down upon, and which had low valuations, have all but disappeared over the past twenty years. As computing power continues to increase, there is no reason to think that undiscovered gems will crop up much in developed markets. (They may appear in developing markets, though I would doubt that.)
Now it is certainly correct that technology has changed the nature of value investing. Many people are trained in the Benjamin Graham, Intelligent Investor style of investing, and many consider the same objective metrics in valuation analysis. With the ease of access to information in the digital age, things are far more crowded in value investor land than in the past.
That being said, there are plenty of opportunities for value investors. Let me start with a comparison of the Moneyball phenomenon in baseball. When Michael Lewis first coined the term with regard to the Oakland Athletics managerial strategy, the undervalued asset in baseball was a combination of on-base prowess and power. Once the word got out that the Athletics were taking advantage of a market inefficiency (i.e. a value opportunity whereby an asset is trading for less than its real worth), that value margin eroded substantially. Sure enough, a new opportunity arose for the baseball value hunter, and this time, the new assets were speed and defense. The stock market is no different.
Many people out there now think of “value” far more broadly than the traditional, textbook application of the concept. Such investors apply concepts of value far more abstractly than simply a few metrics on the balance sheet. Value can be found in the perceived state of an entity or industry, an undervalued projection of the long-term growth trajectory of a company, or a miscalculation of the prevailing macro sentiment, to name a few.
Value investing for Warren Buffett does suffer a very real restriction at this point–the problem of scale–and Buffett has said so much himself. When you reach a certain level of success and assets under management, the universe of companies within which you operate narrows substantially. Even with the limitation of size, Buffet has been able to find ample opportunities. Market dislocations, such as what we experienced the past two years, are outstanding catalysts for someone like Buffett to take advantage of a short-term emotional catalyst in order to seek out new investments. On the smaller scale there are plenty of value investments for the prudent and patient investor.