The rise of the consulting industry, armed with cheap computing power and an abundance of stock-specific data, has harmed the industry, because according to them, a “value” investor is one who holds statistically cheap stocks and a “growth” investor is one who holds statistically expensive stocks. The truth is somewhere … well, actually it’s a lot more complex, and the consulting industry’s crude segmentations don’t capture it.

 

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The values of value investing

The problem is that managers now feel that the composition of their portfolios has to fit in a specific “box.” I remember talking to a friend who runs a mutual fund that is considered to be a “growth” fund. We’d been discussing a stock, which was actually his idea, and then he said “I think you’ll make a lot of money on it… but we can’t buy it; it’s a value stock.”

I organize a conference every summer called VALUEx Vail. Vail is a quaint, beautiful, ritzy ski resort town tucked away in the gorgeous Rocky Mountains, about 100 miles from Denver.

One day I received an e-mail from a reader asking why I – a value investor – would have a conference in an expensive place like Vail. He suggested that as a true value investor I should hold the conference in a hotel somewhere by the airport where prices are much cheaper. His precise comment was, “I thought value investors were supposed to like cheap stuff.”

This e-mail challenged my value-investment-hood. It made me question my value investing “values.” Was that reader right? Was I straying from value investor traditions? Maybe I should rename the conference VALUEx Motel 6 and hold it at a $36-a-night, remote airport hotel?

I recognized that the notion was slightly silly, but it started me pondering: What are the values of value investing?

Let’s think about the bible of value investing – Ben Graham’s 1949 The Intelligent Investor. Graham spent a lot of time talking about cheap stocks. He defined them as the ones that trade at single-digit price-earnings multiples, trade at a discount to book value, or trade below their cash value (net-nets).

Graham placed great emphasis on statistical cheapness – his flavor of value investing is tangible, staring you in the face. It requires very little imagination. You just need to close your eyes, plug your nose, take a deep breath and buy whatever you scrape off the bottom of the stock market abyss – what Warren Buffett calls the cigar-butt approach to investing.

But if the only thing you get out of Graham’s teachings is to buy statistically cheap stocks, then you are shortchanging yourself. This analysis is one-dimensional and ignores much that is important.

In one of my articles, I called Charlie Munger “Warren Buffett’s sidekick.” Jeff Matthews, a friend and the author of Pilgrimage to Warren Buffett’s Omaha, sent me an impassioned note saying, “Charlie is not a ‘sidekick’! Charlie changed Buffett’s investment philosophy. Sidekicks don’t do that.”

He went on: “At Munger’s 90th birthday party, Buffett pulled out an old, yellowed letter that Munger had written back in the day where Munger actually told Buffett explicitly that he had to change – that the cigar-butt stuff wouldn’t scale, that it was better to buy good businesses even if the price wasn’t dirt cheap.

Full article continues at Advisor Perspectives