Markets tend to overestimate the change that can happen over the short term and underestimate the change that can happen in the long term, writes Andrew Williams, which is great news for patient, value-oriented investors
In the 70 years since Benjamin Graham wrote The Intelligent Investor, value investing has outlived more premature obituaries than the entire Avengers team of superheroes put together.
The latest in a long line of arguments as to why ‘this time it's different' - this time - is that the strength and scale of modern technologically-driven business models is apparently a game-changer.
As an example, we recently read one highly respected UK-based investor making the case that growth's significant outperformance of value over the last decade or so could no longer be considered an anomaly.
For one thing, they suggested, whereas average companies used to be able to survive and endure over time, now they die - and usually at the hands of the aforementioned tech-driven business models.
Furthermore, the investor argued, while growing companies may have been unable to scale up satisfactorily in the past, now the cost of snaffling new customers in this kind of winner-takes-all market is zero.
Rather than reverting to the mean, they concluded, the traditional giants of the world economy and the value universe would increasingly fail as they would be unable to adapt to this market revolution.
A bleak picture for value?
That is certainly a pretty bleak picture being sketched out there but is it really time for value investors to throw in the towel?
Well, as we say, this is by no means the first time people have called the end of value - and we feel confident it will not be the last. In the meantime, though, one line from this latest value epitaph that really caught our eye highlighted the pioneer of tech-driven scale models - Microsoft.
You see, in the past - as the wider market preferred ‘Tech 2.0' businesses such as the so-called ‘FAANG' stocks of Facebook, Apple, Amazon, Netflix and Google - Microsoft was a value company.
Yes, that Microsoft.
Indeed, since its share price was significantly below what we perceived its intrinsic value to be and our analysis suggested it would in due course bounce back, we owned it here on The Value Perspective.
All of which reminded us of something called the ‘Gartner Hype Cycle', which maps out the journey that innovations take after their creation.
Focusing on people's perception of technology rather than its actual value in our lives, the cycle sounds like something out of Lord of the Rings - with a Hobbit-like trek that, as you can see below, takes in such landmarks as a ‘trough of disillusionment' and a ‘slope of enlightenment'.
The Gartner Hype Cycle
The story underpinning this chart, in effect, is that a problem needs to be solved; people invest a lot of money in an innovative solution; they get really excited about it; it turns out this innovation does not quite do all that was expected of it; further work is carried out; and eventually the innovation is accepted and it actually goes on to help people's lives and make them more productive.
Or, to put it another way, people tend to overestimate the change that is going to happen over the next year or so, but underestimate the change that is going to happen in, say, the next decade.
And what that means is that correctly spotting the cycle as it unfolds can be very profitable indeed - and, by the same token, misreading the cycle can be devastating.
Human nature's role
As you might imagine, human nature does play a significant role in all this. Thus people tend to assume current trends will continue - expecting sustained growth during the peak and linear decline during the trough - while discrepancies between our short-term and long-term estimates of what is being, and can be, achieved are to be found everywhere.
And what the hype cycle shows is that, for all that people will say value investing is outdated or defunct, value investors can and do make plenty of money out of new technologies.
Rather than chancing their arm straight after an ‘innovation trigger', however, they will look to buy in as the wider market grows disillusioned - which, as it happens, also tends to be when the wheat has been sorted from the chaff.
No-one knows what the next Microsoft will be - or rather the next ‘Microsoft 2013', which the wider market considered to be a ‘value trap'. Perhaps it will be one of the ‘FAANGs' or even Tesla - who knows?
If, however, you are patient, do your analysis and only buy into undervalued businesses with strong balance sheets, limited amounts of debt and a suitable ‘margin of safety', then - no matter what value's detractors say - you will give yourself a good chance of finding out.
Andrew Williams is an investment specialist, equity value at Schroders and a regular contributor to The Value Perspective blog
Brooks Macdonald has bought Edinburgh-based wealth and asset manager Cornelian Asset Managers for a fee of up to £39m.