Stick to the Process

May 23, 2019

RJ Steinhoff, CFA
Director of Research,
Portfolio Manager
Historically, a value approach—buying stocks when prices are low relative to fundamental metrics such as earnings, cash flow, or book value—has outperformed broader markets. Value investing traces its roots to the 1930s works of Irving Fisher, John Burr Williams and Benjamin Graham with work by academics and practitioners over the last thirty years cementing its legitimacy.

However, value has underperformed in the U.S. and globally since the end of the 2008-09 financial crisis, with most of the underperformance coming in the last five years. The table below lists annualized returns for the S&P 500, MSCI All Country World Index (ACWI), and their growth and value style sub-indices through April 30, 2019. Since 1990, the only time the 3 and 5 year annualized return spread between the S&P 500 Growth Index and S&P 500 Value Index has been greater than the recent period was at the height of the dot-com bubble.

Source: Generation Portfolio Management Corp., FactSet

The five largest U.S. large cap value ETFs with more than 10 years of history have all underperformed the S&P 500 over 1, 3, 5, and 10 year periods. The Value Line Geometric Index, an oft-cited value index, and Berkshire Hathaway, run by the highest profile and most prolific value investor of all time, Warren Buffett, have also underperformed the S&P 500 Index.

Source: Generation Portfolio Management Corp., FactSet

As value investors, the recent environment has been as frustrating as riding a bicycle into a strong headwind. Practitioners of any focused investment style must accept these bouts of underperformance. Historically, value and growth have ebbed and flowed, with both underperforming for long stretches of time. After all, if value—or any style or factor—produced steady and consistent outperformance then it would be arbitraged away, never to be seen again.

During frustrating periods, commitment to the investment process must not waver. One might be tempted to chase after what’s working at the moment, as we’ve seen with the rush to cryptocurrencies, cannabis stocks, or any business that labels itself a “disruptor”. A sober, methodical investment process will win out in the long-run. While we’re constantly evaluating and testing new ideas to improve our process, the core of our approach remains unchanged:

  • identify great businesses with high returns on invested capital, solid balance sheets, capable and properly incentivized management, competitive advantages and clear long-term growth drivers
  • estimate the value of these businesses using valuation approaches such as discounted cash flow models or sum-of-the-parts analysis
  • purchase these businesses when they trade at reasonable discounts to our estimates of their fair market values
  • guard against drawdowns using risk management tools, which may include hedges when we believe the business cycle is peaking or market risk is elevated
We have confidence in this approach for the risk-adjusted returns that we seek over the long run. We’re sticking with the process.


The information contained herein is for informational and reference purposes only and shall not be construed to constitute any form of investment advice. Nothing contained herein shall constitute an offer, solicitation, recommendation or endorsement to buy or sell any security or other financial instrument. Investment accounts and funds managed by Generation Portfolio Management Corp. may or may not continue to hold any of the securities mentioned. Generation Portfolio Management Corp., its affiliates and/or their respective officers, directors, employees or shareholders may from time to time acquire, hold or sell securities mentioned. The information contained herein may change at any time and we have no obligation to update the information contained herein and may make investment decisions that are inconsistent with the views expressed in this presentation. It should not be assumed that any of the securities transactions or holdings mentioned were or will prove to be profitable, or that the investment decisions we make in the future will be profitable or will equal the investment performance of the securities mentioned. Past performance is no guarantee of future results and future returns are not guaranteed.

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