What Should Value Investors Be Buying In 2017?

What Should Value Investors Be Buying in 2017? by John Szramiak was originally published on Vintage Value Investing

While the stock market “Santa rally” seems to be continuing, US market valuations are now looking stretched.

That’s not the case for value stocks, though, which have underperformed for several years as investors have either fled for “safe” but expensive defensives, or gambled on highly valued growth stocks.

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Value is now trading at its biggest discount to growth stocks since the 1999-2000 dot-com boom, and we all know how that turned out. That could mean that there is now a significant opportunity in value stocks.

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Value Investors

Time to head abroad

Where should investors be looking for value? With US markets now sitting on high valuations, it’s worth rebalancing portfolios towards foreign stocks. To get an idea of the potential, the 75% of the global economy that’s not the US makes up only half the world’s market capitalization. In other words, it’s too cheap. The US is now trading at a 60% premium over European, Asian, and other emerging markets.

Some emerging markets are now benefiting from better commodity prices. Brazil and Russia are lowly valued, but their economies are now being helped by a resurgent oil price. China also looks cheap as long as you don’t believe the economy will see a hard landing. Investing using a mutual fund or ETF is easy, but make sure you check out the manager’s investment style before putting your money down.

Laying your sector bets

Sector wise, it’s fairly easy to see what to avoid. Real estate, consumer staples, and utilities are all quite richly valued considering they are rarely high growth areas. Real estate and utilities could also suffer from their status as bond proxies if bond prices fall as the Fed hikes interest rates.

Much more attractive for the value investor and particularly the contrarian are resources stocks, many of which have seen their attraction as income stocks blown out of the water as they cut their dividends when times were tough. Valuations right now are low, and earnings should benefit from cost cuts as well as rebounding prices. In most metals and oil, several years of capital investment constraint have helped rebalance the supply and demand equation, and producers are still trading on cheap multiples.

Banks could also be a value trade. The sector has been affected by negative sentiment since the credit crunch, but rising interest rates should help banks achieve higher margins. While challenger banks have made the headlines, the fact is, few customers have moved their business – the”moat” that Warren Buffett typically looks for is still effective.

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Biotech and tech sectors might also be interesting; though valuations remain high, biotech stocks took a big knock last year and haven’t completely recovered. (Again, specialist funds provide an entree to the sector for those who don’t have the expertise to do their own research on the technology involved.)

The best things come in small packages

The biggest stocks on the market have benefited from investors’ desire for safety, leaving small caps behind over the past few years. Value investors are most likely to find undervalued stocks at the smaller end of the market. That means a lot of patient digging if you’re investing directly in equities rather than using funds, but your research could be well rewarded if you find the right stocks.

Keep costs down to get the best returns

It’s no good being a value investor and making a great return if your cost of investment is too high. While it isn’t, and shouldn’t be, your most important investment criterion, a high cost of investment can affect the performance of your portfolio over the long term and you need to keep an eye on fund management houses and brokers to ensure you’re getting a good deal. Trade ETFs using a firm like CMC Markets rather than your bank, and compare online brokers annually to make sure you’re still getting a good deal.

Keeping costs under control could be particularly important in 2017, as returns on investment may be lower than they have been for a while. If that’s the case, you really want to make sure as many cents on the dollar as possible are coming to you, rather than being taken out in high commissions or management fees.

Article by Vintage Value Investing

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Ben Graham, the father of value investing, wasn’t born in this century. Nor was he born in the last century. Benjamin Graham – born Benjamin Grossbaum – was born in London, England in 1894. He published the value investing bible Security Analysis in 1934, which was followed by the value investing New Testament The Intelligent Investor in 1949. Warren Buffett, the value investing messiah and Graham’s most famous and successful disciple, was born in 1930 and attended Graham’s classes at Columbia in 1950-51. And the not-so-prodigal son Charlie Munger even has Warren beat by six years – he was born in 1924. I’m not trying to give a history lesson here, but I find these dates very interesting. Value investing is an old strategy. It’s been around for a long time, long before the Capital Asset Pricing Model, long before the Black-Scholes Model, long before CLO’s, long before the founders of today’s hottest high-tech IPOs were even born. And yet people have very short term memories. Once a bull market gets some legs in it, the quest to get “the most money as quickly as possible” causes prices to get bid up. Human nature kicks in and dollar signs start appearing in people’s eyes. New methodologies are touted and fundamental principles are left in the rear view mirror. “Today is always the dawning of a new age. Things are different than they were yesterday. The world is changing and we must adapt.” Yes, all very true statements but the new and “fool-proof” methods and strategies and overleveraging and excess risk-taking only work when the economic environmental conditions allow them to work. Using the latest “fool-proof” investment strategy is like running around a thunderstorm with a lightning rod in your hand: if you’re unharmed after a while then it might seem like you’ve developed a method to avoid getting struck by lightning – but sooner or later you will get hit. And yet value investors are for the most part immune to the thunder and lightning. This isn’t at all to say that value investors never lose money, go bust, or suffer during recessions. However, by sticking to fundamentals and avoiding excessive risk-taking (i.e. dumb decisions), the collective value investor class seems to have much fewer examples of the spectacular crash-and-burn cases that often are found with investors’ who employ different strategies. As a result, value investors have historically outperformed other types of investors over the long term. And there is plenty of empirical evidence to back this up. Check this and this and this and this out. In fact, since 1926 value stocks have outperformed growth stocks by an average of four percentage points annually, according to the authoritative index compiled by finance professors Eugene Fama of the University of Chicago and Kenneth French of Dartmouth College. So, the value investing philosophy has endured for over 80 years and is the most consistently successful strategy that can be applied. And while hot stocks, over-leveraged portfolios, and the newest complicated financial strategies will come and go, making many wishful investors rich very quick and poor even quicker, value investing will quietly continue to help its adherents fatten their wallets. It will always endure and will always remain classically in fashion. In other words, value investing is vintage. Which explains half of this website’s name. As for the value part? The intention of this site is to explain, discuss, ask, learn, teach, and debate those topics and questions that I’ve always been most interested in, and hopefully that you’re most curious about, too. This includes: What is value investing? Value investing strategies Stock picks Company reviews Basic financial concepts Investor profiles Investment ideas Current events Economics Behavioral finance And, ultimately, ways to become a better investor I want to note the importance of the way I use value here. It’s not the simplistic definition of “low P/E” stocks that some financial services lazily use to classify investors, which the word “value” has recently morphed into meaning. To me, value investing equates to the term “Intelligent Investing,” as described by Ben Graham. Intelligent investing involves analyzing a company’s fundamentals and can be characterized by an intense focus on a stock’s price, it’s intrinsic value, and the very important ratio between the two. This is value investing as the term was originally meant to be used decades ago, and is the only way it should be used today. So without much further ado, it’s my very good honor to meet you and you may call me…