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Value Investing: Investing for Grown Ups?- Aswath Damodaran


eclecticvalue
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This is a new paper written by Aswath Damodaran. It is a very interesting angle on value investing. I feel he will piss off many value investors. One thing I like is the summation of 3 different styles of value investing. So far I haven't finished reading it but can not wait to get through it http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2042657

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If you look at the abstract in the second to last sentence. "While value investing looks impressive on paper, the performance of value investors, as a whole, is no better than that of less “sensible” investors who chose other investment philosophies and strategies. We examine explanations for why "active" value investing may not provide the promised payoffs."

 

I think some investors will take it the wrong way. when I first read that sentence, my first impression was Damodaran is a bit negative towards value investing. Although the paper does summarize value investing very well and could be a must read for value investing for years to come.

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From the description, it looks like the paper discredits or partially discredits active value investing as opposed to passive value investing.

 

In other words, many here may be better off rotating through a mechanically selected group of stocks that appear cheap, such as Magic Formula stocks, rather than extensively researching individual companies and investing in select ones that meet certain partially subjective criteria.

 

I haven't looked at the paper, though.  ;D

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From the description, it looks like the paper discredits or partially discredits active value investing as opposed to passive value investing.

 

As James Montier once suggested, passive value strategies may form a ceiling rather than a floor for returns.  That is, another case of expertise reducing rather than enhancing results.  But it's obviously a matter of debate. 

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If you look at the data he draws his conclusion from its a pretty broad range of value funds.  Since most of these funds require diversification, the effects of value bets are diluted by other less valuey bets that need to be made for diversification.  From what I have seen, the excess returns do not come from the value approach alone but the ability to concentrate your bets into specific firms and not purchase less valuable bets and from buying in small niches that others are not looking into that become recognized.  It would be interesting to see the results of focused value funds versus value index funds.

 

Packer 

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If you look at the data he draws his conclusion from its a pretty broad range of value funds.  Since most of these funds require diversification, the effects of value bets are diluted by other less valuey bets that need to be made for diversification.  From what I have seen, the excess returns do not come from the value approach alone but the ability to concentrate your bets into specific firms and not purchase less valuable bets and from buying in small niches that others are not looking into that become recognized.  It would be interesting to see the results of focused value funds versus value index funds.

 

Packer

 

Good point.  Even better would be to see the long term results of good individual value investors who have focused portfolios.  Individuals are not constrained by excessive concerns about volatility or redemptions.  They can concentrate their portfolios even more than focused funds.

 

It's possible to do this with less volatility than with diversified funds, even without paying up for expensive hedges.  Individuals theoretically have the ability to buy when the market tanks, but most funds suffer large redemptions then and have to sell when they otherwise could be picking up the bargains of a lifetime.

 

Here's an example:

 

Charlie Munger controls a small business, the Daily Journal, that has mediocre cash flows in a declining industry, publishing.  He put that surplus cash into treasuries and realized modest gains over a few years in the new century.  When the financial crisis hit, he waited until the bargains were simply too great to resist.  Then, he jumped in with both feet and bought very high quality companies near their bear market lows.  He continued to buy the same type of high quality company on the pullbacks during the recovery as the paper generated more cash.

 

The result:  If I'm not mistaken, the book value of the company, has increased about ten times over the last decade or so, a better result than 99% of the diversified stock funds, even after deducting the % of appreciation attributed to accumulating the modest cash flows of the paper.

 

Here's the most amazing thing, the downside volatility of Charlie's results as measured by net asset value has been about as low as it can get in such a volatile period.  Risk adjusted, no diversified fund in existence is likely to equal it.

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I've been auditing two of Prof Damodaran's courses.  He presents a very traditional view of finance and valuation.  Think modern portfolio theory, beta, etc. (though with his own improvements).  He advocates owning 40 stocks to be diversified.  The courses are good background, he is a smart and thoughtful guy, but there are some definite philosophical differences between him and most of the individuals on this board.

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Is he a "good investor and good professor" or "simply good professor"? He might be very good investor as well but i don't know much about him so simply asking pretinent question.

 

If he is not a good investor then how much weight anyone can give to his views about investment. I remember one EMT guy was invested with Buffett while preaching about EMT. Not related to this but I always get a chuckle while remembering about that guy.

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Guest Hester

Even better would be to see the long term results of good individual value investors who have focused portfolios.  Individuals are not constrained by excessive concerns about volatility or redemptions.  They can concentrate their portfolios even more than focused funds.

 

And even better would be to see the long term results of good/average/bad individual value investors.

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Is he a "good investor and good professor" or "simply good professor"? He might be very good investor as well but i don't know much about him so simply asking pretinent question.

 

If he is not a good investor then how much weight anyone can give to his views about investment.

 

Those who can, do.  Those who can't, teach.  ;)

I think I remember reading an interview with Bruce Greenwald saying he couldn't pull the trigger on investments.  He could research and value fine, but actually making the investment, he would freeze up.

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Is he a "good investor and good professor" or "simply good professor"? He might be very good investor as well but i don't know much about him so simply asking pretinent question.

 

If he is not a good investor then how much weight anyone can give to his views about investment.

 

Those who can, do.  Those who can't, teach.  ;)

I think I remember reading an interview with Bruce Greenwald saying he couldn't pull the trigger on investments.  He could research and value fine, but actually making the investment, he would freeze up.

Where did you find that interview? I would also like to read it.

 

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