For the last ten years at least, investment managers who analyze stocks looking for value have had a tough time performing well. It’s becoming easy to wonder if value investing doesn’t ‘work’ any more. Jeremy Grantham has mused that large companies growing ever larger gain economic power at the expense of competitors, permanently, breaking the mean reversion that typically happens when a company is out of favor, fixes itself, and then appreciates. Others believe that with computers choosing stocks to an ever greater degree, small forays from fair value are rapidly arbitraged away. Too, an argument can be made that the Fed’s easy money policies have confused price discovery and distorted capital flows in many areas of the economy, possibly even perpetuating our low-growth environment. When growth is scarce, investors pay ever more for it, rejecting slow growers in favor of faster growth. Finally, with indexing so popular, money flows to the largest companies, boosting their values at the expense of other stocks. All of these may be true to some extent – for now.
But on a more ominous note for investors of all stripes, the willingness to pay ever more for companies that do not make much if any money is sounding quite a lot like 1999, the pinnacle of technology valuations that held for over fifteen years. Back then, tech stocks surged into early 2000, then fell like a rock. The Nasdaq did not recover its peak valuation until mid 2015. Countless stocks have never regained the prices of those days, despite experiencing recent record earnings. Cisco Systems, Intel, Qualcomm, and Verisign are all well below their prices of late 1999-early 2000. (Interestingly, IBM – a stock that the market loves to hate right now – is well above its peak of 1999.) In another eerie commonality, the Fed was beginning to tighten back in 1999. Here is what David Bianco, chief equity strategist at Deutsche Bank, wrote in 2013 about that time frame:
“The yield curve didn’t invert until March of 2000, however 1999 was feared to be late in the cycle by many investors despite low inflation given that it was eight years since the last recession. The popular debate at the time was whether or not the business cycle had been tamed and elongated versus history. The PE of the S&P 500 climbed to 20 and higher, which contributed to a correction in 7/99-10/99, but the market rebounded and rallied strongly into year-end as the economy displayed health with unemployment falling further and dipping under 4% in early 2000. However, 2000 brought signs of excessive investment in technology and telecom. A demanding PE and a hard rolling over of profits on a business spending recession started a bear market exacerbated by 9/11/2001.” (My emphasis added.)
Does that sound familiar?
The 2000-2002 time frame marked a redemption for value investors, who had been squeezed for years until then. Value investing entered a halcyon period, which lasted for several years. Investigating market history as we’ve done here reminds us: The more things change, the more they stay the same.