'Bring out your dead!" is the corpse collector's refrain at the start of a classic scene in Monty Python and the Holy Grail. In the movie, the collector encounters a customer who wants to dispose of a body that's, well, not quite dead yet.
I was reminded of the scene when reading Ian McGugan's piece in ROB Magazine on the looming death of value investing. Just like the customer in the movie, I think he was little too eager to consign the time-tested strategy to the grave.
Mr. McGugan's dour case against value investing was fueled by its poor relative performance in recent years. He turned to the work of Jason Hsu, the co-founder of Research Affiliates, for some numbers.
In one study, Mr. Hsu determined that U.S. value funds outperformed the market by an average of 0.4 of a percentage point per year from 1991 to 2013. That's an admittedly meagre margin for investors but the funds still beat the market.
In addition, the average fee (or expense ratio) charged by the value funds came in at 1.4 per cent annually, which means they outperformed the market by almost 2 percentage points per year on a before-fee basis. It turns out that value investing was quite profitable provided investors didn't pay too much for it. That's good news for frugal stock pickers.
Mr. McGugan also expressed a worry that modern databases and computers make it far too easy to find value stocks. The idea being that, much like trying to spot a $20 bill on the sidewalk, any bargains are quickly snapped up in today's market.
But the availability of information doesn't necessarily lead to wisdom or an efficient market. After all, investors had more than enough information – for free via the Internet – during the late 1990s when "dot com" stocks were all the rage and bargain stocks languished in the market's gutters.
Instead, value investing's edge is rooted in human nature and the primal forces that sometimes govern it. However, it's a dual edge because value investors themselves are only human.
While Mr. Hsu isn't worried about the possible demise of value investing, he is quite concerned about the propensity of investors to jump into the latest hot strategy and then jump out after it hits a rough patch. It's the age old buy-high sell-low disease that leads many investors to their ruin.
The scale of the poor-timing problem can be seen by comparing a fund's time-weighted (or reported) return to its dollar-weighted return, which accounts for the amount of money invested in the fund over time.
Dollar-weighted returns track the earnings of fund investors, as a group, and includes the impact of their timing decisions. Time-weighted returns track the performance of investors who simply buy and hold the fund over the period in question.
According to Mr. Hsu's figures, poor timing by equity fund investors caused them to underperform buy-and-hold investors by an average of 1.9 percentage points per year from 1991 to 2013. Investors in growth funds were the hardest hit and trailed the steady Eddie approach by 3.2 percentage points annually. Value fund investors fared a little better but they still fell behind by 1.3 percentage points annually.
Those are some huge numbers, but Mr. Hsu's research indicates that investors in low-fee funds picked up a double benefit. The low-fee funds provided more generous time-weighted returns than the high-fee funds and their dollar-weighted returns were also much higher.
The urge to jump into the hot strategy of the day can be quite strong and it's something all investors should guard against. It's vitally important to find an approach that matches your personality and it has to be one that you can stick with through thick and thin.
While I sympathize with Mr. McGugan's view that the last few years haven't been great for value investing, it's far from dead. The patient merely requires a little more patience rather than a premature trip to the grave.
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