Value investing is not dead. Passive investing is not going to put all active managers out of business.
Investment styles tend to go through long cycles:
Value investing peaked in the late ‘80s as takeover stocks were all the rage and investors feared “America’ s decline.” Japan was a rising star and Silicon Valley’s dominance was even in doubt.
Growth investing was on fire in the ‘90s, peaking in 2000 with the Nasdaq breaking 5,000. The Internet was the next new thing and investors couldn’t own enough dot-com lottery tickets, jettisoning “Old Economy” value stocks in the process.
As tech stocks peaked, value stocks bottomed. Value went on to outperform for 7 years, culminating in the 2007 credit bubble top.
From 2007-2020, disruption ruled. Growth stocks were led by the unparalleled success of companies like Amazon, Facebook, Google, Apple, and Netflix. Value stocks underperformed dramatically for 13 years. (Btw, the graph to the right is somewhat out-of-date. The ratio of growth-to-value is now closer to 0.5.)
While investors have piled into large, liquid stocks like the FAANGs through index funds, many smaller, value-oriented stocks have been left for dead. The divestment of fossil fuels and lockdowns of “non-essential” brick-and-mortar businesses have only added to the pain. In 2000, not one of the ten largest tech stocks by market cap beat the market over the next 10 years. Index funds top-heavy with the FAANGs + Microsoft and Tesla will be dragging around a boat anchor compared to their fleet-of-foot value brethren over the next decade.
Meanwhile, on December 21, 2020, Tesla was added to the S&P 500; its market cap of over $700 billion exceeding that of the entire global automobile industry. Index fund buyers are buying the stock after a 7-fold runup in 2020. (See “Bear Market.”) This is reminiscent of Yahoo! being added to the S&P 500 in December 1999, just 3 months from the tech bubble peak.
Asset management is a good business with low fixed costs and high operating margins. Passive managers like BlackRock command premium valuations (7x annual revenue) compared to their out-of-favor active cousins (1-2x). Many of the smaller, active managers are run by founders with skin in the game.
“I think the opportunity today is in small cap value and fundamental research while everyone is paying attention to the macro and the craziness of what's going on in trying to day trade.”
— Aaron Edelheit