[acconrad]

I belong to a fair number of value investing forums and made money off of the strategy for a while. Here's why I think this no longer works in the traditional sense and what works now:

The rise of quants, ETFs, and instant information has largely arbitraged away value mispricings. So if it looks like a bargain, it's probably a value trap.

So where can you find value? Where the above things are not present. Quants work for big firms. Goldman Sachs can only make a dent if it does massive deals. As Buffett said, he could still do great things with $1mm AUM, but with billions, he can't make small plays anymore. So individuals can only find value where the big players (GC, ETFs) don't play. This means micro caps, foreign stocks (Japan comes to mind as a hot spot for value). The problem is two fold:

1. The above-mentioned pool is very small.

2. It's riskier.

So you have to do a ton of research to avoid the value trap mistake, often with way less information since these stocks aren't subject to the same 10K/10Q auditing that American stocks are.

Now you've researched something so much you're biased to believe it working since you've sunk so much time into it. And because you've sunk so much time you don't have the time to research the rest of the investment pool, so combined you see these value investors who are very concentrated in some highly-convicted bets. And thus, the ones that win, win big and can claim there is always value to be found even in a market dominated by momentum investing. The rest lose to value traps, and lose big.

So what's the takeaway? It still works. The low numbers in terms of P/E and P/B that are in books like The Intelligent Investor don't work. You have to relax those constraints quite a bit. And you can't be looking in the S&P 500.

I used to think I could do this as a hobby. And I did. But I think I got lucky based on the amount of time and research I did. To be demonstratively good at value investing time and time again requires robotic levels of dispassionate patience, and research that demands a full time job.

[ThrustVectoring]

More of Buffet's success was from Bet-Against-Beta than from value investing. Lots of investors are liquidity and leverage constrained - many mutual funds cannot exceed 100% exposure to stocks. If they buy a stock portfolio that participates less in both bull and bear markets, they wind up underperforming over the long run.

Buffet, on the other hand, regularly buys up these low-volatility companies using borrowed money. If you take something that behaves like 80% of the S&P 500 and lever it up 125%, you'll get the performance of the S&P 500. But the 80% S&P 500 stock is cheaper than it "should" be, so you wind up over-performing instead.

[chkdsk]

The reason value works isn't just behavioral mispricing. Numerous academic studies have shown there is an inherent risk component driving the persistently larger returns found in "value" stocks.

Behavioral mispricing can be arbitraged. Risk cannot be arbitraged away.

Value still works and will always work due to this added risk component.

[throwawaymath]

> Numerous academic studies have shown there is an inherent risk component driving the persistently larger returns found in "value" stocks.

I know this is an annoying question, but can you reference a couple of them? I’m interested in reading.

[JumpCrisscross]

> you've researched something so much you're biased to believe it working since you've sunk so much time into it

I always keep a null hypothesis handy. (Usually an index fund.) I’ll research my targets alongside the fund(s).

[matthewwiese]

> Japan comes to mind as a hot spot for value

I'd be interested in learning more about this, even if just for the sake of a hobbyist's fascination in stock markets outside of the U.S. Are there any resources you'd suggest for somebody who has amateur interest in value investing but without a lick of Japanese language & cultural knowledge?

> To be demonstratively good at value investing time and time again requires robotic levels of dispassionate patience

There's a good sci-fi short story buried in this somewhere... Stock Runner, perhaps?

[lixtra]

I disagree. Remember the big Apple plunge a few years ago? Or Macies about a year ago? Or Sodastream a few years ago? I find a reasonable opportunity about once per year. But I still lack the balls to go into these with huge amounts. (Currently considering LB, if you ask).

[acconrad]

The same could be said for Facebook. What you're referring to is an irrational market responding to news and creating a sale on an asset. "Facebook on discount, buy now!" If you bought at the nadir of the $FB dip you'd already be up 7% right now.

Yes, those things do exist, that doesn't mean those companies are value stocks. Facebook is still trading at a P/E ratio of 28, and an EV/EBIT of 20, both of which are high. Was it a discount to it's current momentum? Yes. Was it a discount based on value? I'd say not.

[bunderbunder]

Curious, how often is it even possible to evaluate a company using Graham and Dodd's methods these days? I haven't read much of their work, just The Intelligent Investor, so there's a lot I don't know. The difference in P/E ratio standards they talked about struck me, yes, but even more than that, I am unsure of how to translate a lot of their ideas about how you limit your potential losses into the modern economy.

Back when companies tended to have a lot of physical assets (relative to their overall value) that tended to depreciate slowly, that might have been easy to calculate. For a company that participates in the information or service economy, though, virtually all of their value is tied up in intangibles, and about the only physical assets that are likely to have any value at all after a few years are the office furniture.

[derivagral]

As someone who followed Intelligent Investor (and Klarman's Margin of Safety concepts) as an amateur who made good annualized returns, my partner and I stayed away from the modern tech stocks. We basically agreed with what you say about the risk on the performance of a company like FB: if things go bad, there's no real moat or tech or assets that comes close to the market cap of the company.

What's still reasonably valid is the concept of both moats and float, both of which I think you can get indications of in the 10-Q/A reports that aren't always reflected in current expectations.

Also, focus on where you can win. You aren't pricing AAPL better than the legions of professionals over 5 years, but the boring small-mid cap stocks that are too small for major funds to care about have more opportunity.

And finally: this is why indexing is such a huge thing. This stuff is hard, and using a low fee fund to track the market lets you live your life instead of having an extra job. I personally quit because while the % was good, the scalar wasn't worth the time invested.

[bunderbunder]

That's more-or-less what I concluded after reading II, too, and why I never made a serious go of it. With the amount of money I had to play with, even if I managed to double market returns, which I assumed was a very optimistic outcome, it would still be a lower return on my time, in terms of $ per hour, than just working the occasional contract job after hours.

[starpilot]

"It's one thing to know it's going to rain. It's another to build an ark."

I'm still working on getting the balls to short some housing stocks for the burgeoning correction. It might be too late though. LEN KBH DHI TOL

[adventured]

Or two years too early. That's always the question.

In favor of it already being too late: TOL is back to where it was six years ago, with three times the sales now vs then, and for practical purposes infinite more profit (they only finally got back to profitable in 2Q12). What would the short thesis be against that setup? It certainly does look like a lot of downside is built in now. Meanwhile HD is trampling estimates.

We've got no inventory build (the exact opposite, a painful dearth of inventory). The job market is extremely strong. Mortgage defaults aren't soaring. Household debt isn't soaring. A value stagnation (wages aren't rising fast enough) looks like the most likely bad scenario for now, instead of a meaningful correction.

[mxschumacher]

I'd still argue than metrics like EV/FCF give some indication of valuation / risk.

Balance sheets become less meaningful going forward. Google's greatness is not to be found in its physical assets.

[colossal]

In my completely amateur opinion, that is the one major reason why value investing is so much harder today. When Graham and later Buffett were executing this strategy to enormous success, most of a companies valuation could be traced back to it's assets -- excluding intellectual property. Now that IP is such a large part of valuations, it's much harder to execute this strategy because IP is inherently harder to valuate than tangible assets. And consequently, it's much more difficult to accurately access the difference between price and value.

[aaavl2821]

Balance sheet metrics can still be important. Return on invested capital (ROIC) is a very popular "value" metric showing what a business can earn by investing in its business. The denominator is calculated from the balance sheet

Basically, if you are a good business with a strong moat, you will be able to invest in your business at a compounding rate. ROIC is a way to measure this

[acconrad]

Yes, I agree! Metrics are extremely important in screening out for value stocks. What I'm saying simply is that there is no singular magical metric that can wipe out hours and hours of research. To simply list all stocks by EV/FCF ordered by cheapness will not automatically create a winning portfolio.

[aaavl2821]

There's a sort of common strategy that uses EV / FCF (or something like that) as a metric for cheapness and ROIC as a metric for "good" businesses (to avoid value traps). I believe it has done pretty well

[acconrad]

It's the Magic Formula (EV/EBIT and ROIC) and it has not always performed well:

https://seekingalpha.com/article/4116677-greenblatts-magic-w...

[imjk]

Which forums are you referring to?

[unknown_apostle]

As an amateur, you have a lot of advantages over the "professionals".

You correctly mentioned being able to turn to smaller companies and low liquidity situations. Some professional players also self sabotage due to a particular mandate or ridiculous constraints, such as avoiding volatility. Having too much apparently useful information can also be a curse.

You can also choose to just "not play" sometimes. You don't have customers or bosses and you're only competing with yourself. Or rather, you're not competing at all. When things get confusing and very highly valued (as they have been for years now), you can just do nothing. Or at least do less.

Another advantage you have, which is related, is being able to have a very long term perspective. By which I mean a perspective measured in decades, which is the timescale at which the world and its financial conditions truly seem to change.

There's times like the late 70s/early 80s, where stock markets were not just ultra low, but pretty much COMATOSE. People just didn't do stocks. They remembered stocks as that thing from another age. At least in my country, the typical stock owners in that time were families whose patrimonium was tied up in 1 single company that they controlled. Needless to say, volume and liquidity was next to nothing. (By my understanding, conditions like these must have occured at least 4 times in the 20th century. Not yet in the 21st century, not even in 2000-2002 and 2007-2008, but it will.)

In a sort of Upside Down World mirror image of today, investors in the late 70s/early 80s were all about fearing stagflation, when the exact opposite was about to unfold due to central bankers receiving popular carte blanche for brutal anti-inflation shock therapy. They were quite literally lining up around the block to buy gold. Movies like "Rollover" were being made and Grandmaster Flash was rapping about double digit inflation.

Today it's all about "TINA" and low yields and the central banker put, while in reality central bankers are slowly moving back to taking orders from politicians and are walking on egg shells about a 0.1% hike because they suspect they have painted themselves in a corner. Back then some companies where almost literally hiding their profits ("pour vivre heureux, vivons caches") whereas today making a loss is almost something to be proud of.

That being said, even though these are very hard times for value investors, you can always keep searching. Like you say, it's a hobby, like going to flea markets. Personally, for the last few years, I've found interesting stuff going on in (certain) gold mines. No moat and a dependence on the price of a commodity most hated by Buffett. The general atmosphere there is depressing and it's definitely not a crowded place. There were 3 subsequent heavy tax loss selling years (2014, 2015 and 2016).

Yet the sector has been going through a very extensive cleaning period after the 2011-2016 nuclear winter and you can find (fairly) reliably profitable mid tier producers at very nice prices. They will still go up and down with the gold price, so you can't call them real value stocks. But the good ones can stay profitable even with lower prices and therefore do not go down as much as the others. So there is an obvious differentiation and a sizeable margin of safety, as big as it will ever be there. In that sense, they look like value plays to me. I'm comfortable being there.

In a more negative way, I've become interested in South Africa, an increasingly unstable country where 70-80% of the world's platinum and rhodium are currently being mined at massive losses. (Holding platinum and rhodium ETFs is commodities speculation rather than value stocks, but ok.)

[paulie_a]

Ive had quite a few investment funds over a long period of time.

The professionals suck at their jobs.

I've consistently beat them by orders of magnitude without even trying. If the returns are not 10-25 percent every year I'm not bothering with the people that do it for a living.