In 2004 Chan and Lakonishok published Value and Growth Investing: Review and Update. In this study they document annual returns to value and growth investing over the period 1969-2001. They conclude that even after taking into account the hyperbolic surge (and crash afterwards) of growth stocks in the period 1997-2000 value investing still generates superior returns. Over the 1969-2001 Chan and Lakonishok document a compound annual return of 16.4% for large cap US companies, where large caps are defined as stocks ranked in the top six deciles of market cap based on NYSE breakpoints. Over the same period the S&P500 generates a compound annual return of 11.4%.
In this contribution we extend the Chan and Lakonishok study:
* we document average annual returns to value and growth investing for large cap US companies over the 1970-2012 period;
* we show the returns to an investment strategy where the value decile is purged from companies with a weak financial position (referred to as value+);
* we compare the returns to value and growth investing with other asset classes such as government bonds, gold and oil, both in nominal and real terms.
-Annual returns
TABLE I and TABLE II show average annual returns for the different investment strategies and asset classes over the 1970-2012 period. Both tables clarify that value+ realizes the highest average annual return. In nominal terms the average annual return to value+ is 16.9%; in real terms the return is 12.5%. Value+ realizes a smaller maximum drop on an annual basis compared to the other investment strategies and asset classes, with the exception of the 10-year Treasury.
TABLE I: AVERAGE ANNUAL RETURNS AND DOWNSIDE RISK (NOMINAL TERMS) OVER THE 1970-2012 PERIOD
Value |
Value+ |
Growth |
S&P500 |
10-year Treasury |
Gold |
Oil |
16.4% |
16.9% |
11.9% |
11.8% |
8.4% |
11.9% |
11.8% |
-28.0% |
-23.7% |
-38.7% |
-31.9% |
-11.1% |
-25.2% |
-46.4% |
TABLE II: AVERAGE ANNUAL RETURNS AND DOWNSIDE RISK (REAL TERMS) OVER THE 1970-2012 PERIOD
Value |
Value+ |
Growth |
S&P500 |
10-year Treasury |
Gold |
Oil |
12.1% |
12.5% |
7.6% |
7.5% |
4.0% |
7.5% |
7.5% |
-26.6% |
-22.3% |
-45.8% |
-30.4% |
-13.7% |
-34.8% |
-48.1% |
–
-Ten-year real total returns
In the following five charts we compare ten-year real total returns between value+ on the one hand and growth, S&P500, 10-year Treasury, gold and oil on the other over the 1980-2012 period. At the bottom of the chart we provide the most important results, more specifically:
* the number of times that each investment strategy or asset class realizes a positive ten-year real total return;
* the average ten-year real total return;
* the minimum ten-year real total return.
Value+ stands out as the best and most consistent investment strategy. We find that in all 33 ten-year periods value+ realizes a positive real total return with an average of 219% and a minimum of 65%. This finding also holds for value. All other investment strategies and asset classes are confronted with at least three ten-year periods of negative real total returns, implying a decrease in real wealth for investors. This is notably the case for gold and oil. Both asset classes suffered from a long period of negative ten-year total returns after the commodity boom in the late 1970s.
GRAPH I: VALUE+ VERSUS GROWTH – TEN-YEAR REAL TOTAL RETURNS
Number of times value+ realizes a positive real total return: 33 out of 33
Number of times growth realizes a positive real total return: 30 out of 33
Average real total return for value+: 219%
Average real total return for growth: 80%
Minimum real total return for value+: 65%
Minimum real total return for growth: -49%
GRAPH II: VALUE+ VERSUS S&P500 – TEN-YEAR REAL TOTAL RETURNS
Number of times value+ realizes a positive real total return: 33 out of 33
Number of times S&P500 realizes a positive real total return: 29 out of 33
Average real total return for value+: 219%
Average real total return for S&P500: 120%
Minimum real total return for value+: 65%
Minimum real total return for S&P500: -33%
GRAPH III: VALUE+ VERSUS 10-YEAR TREASURY – TEN-YEAR REAL TOTAL RETURNS
Number of times value+ realizes a positive real total return: 33 out of 33
Number of times 10-year Treasury realizes a positive real total return: 28 out of 33
Average real total return for value+: 219%
Average real total return for 10-year Treasury: 51%
Minimum real total return for value+: 65%
Minimum real total return for 10-year Treasury: -40%
GRAPH IV: VALUE+ VERSUS GOLD – TEN-YEAR REAL TOTAL RETURNS
Number of times value+ realizes a positive real total return: 33 out of 33
Number of times gold realizes a positive real total return: 15 out of 33
Average real total return for value+: 219%
Average real total return for gold: 67%
Minimum real total return for value+: 65%
Minimum real total return for gold: -60%
GRAPH V: VALUE+ VERSUS OIL – TEN-YEAR REAL TOTAL RETURNS
Number of times value+ realizes a positive real total return: 33 out of 33
Number of times oil realizes a positive real total return: 16 out of 33
Average real total return for value+: 219%
Average real total return for oil: 69%
Minimum real total return for value+: 65%
Minimum real total return for oil: -62%
-Total return
Finally we take a look at the total return of the various investment strategies and asset classes over the 1970-2012 period. The results are shown in GRAPH VI. We start with $1 invested at the end of May 1970. At the bottom of the graph again we show the most important figures. Value+ stands out with a total return in nominal terms of $393.35 after a 43-year period, implying a compound annual return of 14.91%. This figure is somewhat lower compared to the results by Chan and Lakonishok (2004).
GRAPH VI: TOTAL NOMINAL RETURN
Total compound return for value: 324.74
Total compound return for value+: 393.35
Total compound return for growth: 41.10
Total compound return for S&P500: 67.96
Total compound return for 10-year Treasury: 24.66
Total compound return for gold: 43.40
Total compound return for oil: 27.44
Compound annual return for value: 14.40%
Compound annual return for value+: 14.91%
Compound annual return for growth: 9.03%
Compound annual return for S&P500: 10.31%
Compound annual return for 10-year Treasury: 7.74%
Compound annual return for gold: 9.16%
Compound annual return for oil: 8.01%
-Conclusion
In this contribution we compared the returns to value+ investing with other investment strategies and asset classes over the 1970-2012 period. Value+ investing – as originally conceived by Benjamin Graham – proves to be the only investment strategy that realizes a positive real return over each ten-year period and consequently actually preserves the capital of investors in real terms. At the same time investors – thanks to the safe fundamental risk profile of value+ – don’t need to be worried about “a permanent loss of capital”.
-References
CPI and S&P500 data by Robert Shiller
10-year Treasury data by Aswath Damodaran
Gold and oil data by Inflation Data