It’s a tough time to be a value investor. Macro headwinds are growing, volatility is increasing, and valuations are rich, leaving little or no margin of safety.
The combination of these three factors presents a dilemma for value investors. Traditionally, when the outlook is bleak, valuations are attractive enough to offer a margin of safety -- a wide enough discount to intrinsic value to compensate investors for risks taken. However, despite the macro headwinds facing the market, valuations remain unattractive across the board thanks in part to the easy money policies of central banks, which have helped to prop up the market.
To help investors navigate this market, in the June 30 issue of Value Investor Insight four highly successful investors explain where they see value in today’s market and how they are positioning themselves for the risks ahead.
How value investors should look to invest in today’s market
Charles de Vaulx of International Value Advisers, Zeke Ashton of Centaur Capital, Kimball Brooker of First Eagle Investment and Jayme Wiggins of Intrepid Capital are the four professional value investors in question. It’s clear that all four of these managers are extremely cautious on the outlook for the market. Cash allocations are extremely high ranging from 18% (15% cash and 3% short-dated bonds) at First Eagle Investment to 70% at Intrepid Capital. For the most part, these high cash weightings are to do with valuation more than downside protection. These value investors will only invest in a company that meets all of their strict value criteria. With valuations at near record levels across the board, it is getting harder and harder to find stocks that qualify. As Jayme Wiggins of Intrepid Capital explains:
“We require at least a 20% discount to the intrinsic values we calculate using discounted-cash-flow models that include higher-than-average discount rates of 10-15% and lower-than-average growth rates… If they don’t exist, we don’t lower our discount rates or increase our assumed growth rates in order to make the math work. If we sell something that hits our estimate of fair value and don’t have anything to buy, we’ll hold cash… It’s extremely difficult to find cheap stocks. As a result, my highest conviction idea is a pile of cash with a 0% return.”
The above sums up the tone of all value investors in the piece. The consensus is that in today’s world, a lot of investors are letting standards slip to justify paying a higher price for stocks, convincing themselves that lower discount rates or a reduced margin of safety is appropriate for whatever reason.
Still, the four value investors profiled don’t seem to be totally out of ideas. Zeke Ashton of Centaur Capital likes some brick-and-mortar retailers although the fund isn’t in any rush to acquire positions in the sector as it would like to evaluate how the changing retail environment will impact these traditional businesses. Centaur also likes International Speedway and Speedway Motorsports as the fund believes that these two motorsport companies can achieve some impressive returns for shareholders in the near-term.
Kimball Brooker believes there is value to be found at Flowserve after the company’s share price was cut in half last year. Flowserve is a long-term bet on the price of oil with a strong balance sheet and room for growth through the next oil cycle. Meanwhile, Corus Entertainment has attracted the interest of Jayme Wiggins, who believes that the company’s shares could rise by more than 50% from current levels as negative investor sentiment following a poorly timed acquisition and concerns over advertising rates reverses.