Aswath Damodaran, Stern School of Business, NYU – ‘Where is the Value in Value Investing ?’
Aswath is a author of Damodaran on Valuation: Security Analysis for Investment and Corporate Finance (Wiley Finance) and professor of Finance at NYU Stern.
*General
o Natural contrarian
o Nothing to lose
o ‘Pinata’ ready to fight back – (Value community uses academics as a ‘pinata’)
o When everything is Value Investing, nothing is Value Investing
* His definition – Significant discount to estimate of value
o Put aside the accounting balance sheet
o Look at the ‘Financial balance sheet’
- Investments the business has made
- Investments the business expects to make – future (bulk of Facebook’s value is in growth)
* Hard Core Value shuts out much
* (3) classes of Value Investors
o Passive screeners (Graham, identify undervalued assets)
o Contrarian (Bad news, too depressed)
o Activists (Bad management, bad run, hope to change)
* Myth 1 – DCF is just an academic exercise
o Present value of expected cash flows
o If you are not affecting cash flow or risk, cannot affect value
o Asset value – must have positive cash flow at some point
o negative cash flow up front – if larger cash flow later
o (4) drivers of DFC
** Cash Flow
** Value of growth over the cost of that growth
** Risk
** Maturing of the business – how soon
** (Do not make DFC the enemy of Value)
* Myth 2 – Beta
o Measure of relative risk only
o Measure macroeconomic risks related to interest rates
* For public companies, the cost of capital will be 7% -12%
* If you don’t like Beta and use 9%, not so bad
o Beta alternatives
* Market based
* Relative volatility, Standard Deviation
* Implied cost of equity and capital
* Accounting Information based
* Accounting earnings volatility
* Accounting ratios
o Doing your homework does not make risk go away
* Macro risks are still there
* Implication 1 – Need for diversification not decreased because you are a Value Investor
* Implication 2 – Good Value Investors can still lose money
* Myth 3 – Margin of Safety is an alternative to Beta and works better
o End of the process, not the beginning
o Not a substitute for risk assessment and valuation
o Not a fixed number for intrinsic value, but reflective of uncertainty
o Too conservative can be damaging to long term investment process
o Too high, just as harmful
o Useful tool is “Crystal Ball” in Excel to do large numbers of simulations & compile the results
* Myth 4 – Good management = low risk
o (my note: I think this related to the horse/jockey analogy)
o What to look for in good management (not all inclusive)
* Stability of earnings
* High growth
* Low risk
* Hi dividend
* Myth 5 – Wide moat = good investment
o Wider is only warranted over time – sustainable
o If you can predict
* Myth 6 – Intrinsic value is stable and unchanging
o Price of risk varies
o Not a single number, but a range
o Passive investors are ‘stuck’, Activists can change the situation
* Myth 7 – Active value investing has a bigger payoff than passive value investing compared to active growth vs. passive growth
o Active growth actually beats by more
* What is your competitive advantage? (the only data advantage is in high frequency trading)
* Success can be achieved selling liquidity when others need it
* Q&A
o Definition of risk
* Some measure of a market component
* Accounting data does not do it (smoothing & restructuring items are really just ‘screw ups’)
o Q4 – 2008, was risk redefined?
* Normal was mean reversion, but now the global/macro is a factor
o Growth & value definition
* General – low P/E value, high P/E growth
o How to assess the value of growth assets?
* Value of the growth that exceeds the cost of capital for that growth
Value Investor Conference: Omaha, Nebraska – May 4th, 2012
Dustin Hunter, SunRift Capital Partners (www.sunriftcp.com)
(These notes are to the best of my recollection and trusty ink pen. Discrepancies are due to my error in understanding & transcribing.)
