It was the winter of 1928 when JFK’s father, Joe Kennedy, was said to have received a stock tip from a shoeshine boy – “Buy Hindenburg”. The story goes that Joe went straight to his office and sold everything, reasoning that it must be time to sell when the shoeshine boy gives you stock tips.
Markets are often characterised as being driven by fear and greed, something that is formally recognised by the field of “behavioural economics”. As the coronavirus pandemic took hold markets were indeed overcome with fear – fear that a massive economic shock would wreak havoc on investors’ portfolios. Central Banks acted swiftly to appease these fears – “injecting liquidity” – by purchasing financial assets with newly printed money. These actions to stabilise markets were, in my view, the responsible thing to do. However, can you have too much of a good thing?
We are in the middle of the worst economic shock in post-war history and yet many stock market indices are close to their all-time highs. How is this so? Bar Stool Dave is making headlines, telling his “trader bro” followers to remember that “stocks only go up”. More seasoned market commentators are reasoning “don’t fight the fed”. Whilst the most cerebral pundits tell us that low interest rates mean that future corporate cashflows are worth more in today’s money because we can look far into the future without heavily discounting them. They tell us that these high stock prices are now mathematically justified (failing to mention that this logic relies on corporate cashflows both not seeing large declines and on us correctly forecasting them into an ever more distant future).
It is not just pundits who are telling us to have no fear. The speaker of the US House of Representatives, Nancy Pelosi, went so far as to say “But let’s just go to the heart of the matter: the stock market, there is a floor there. You know that the Fed and others are pounding away to minimize the risk in the stock market, and that’s a good thing.”
Perhaps all that is left is for the government to pass legislation to mandate that stock prices must always go up?
It is thus we are in an environment where the “fear of missing out” seems to be the dominant risk for many in the markets. This thought leaves me wanting to get my shoes shined – in the hope of having my own Joe Kennedy moment. I am yet to find a shoeshine boy (or girl) where I live in rural Oxfordshire and have not had any more luck in the streets around our Marylebone office. Perhaps the twenty first century equivalent is watching “Bar Stool Dave” on YouTube?
Am I foretelling an imminent crash in markets? I am not – that type of punditry is not for me. What I do see is that there appears to be an absence of risk aversion in markets that I believe can lull investors into a false sense of security, which increases the risk of unpleasant surprises. As a “card carrying” value investor I believe that no matter how great a business is, it will only make for a great investment at the right price and that the fear of missing out encourages people to invest at any price.
The value-growth debate is now long in the tooth. We have seen a decade of growth-style investors outperforming their value-brethren, and so proclamations from the latter “sore losers” that “the end is nye” for growth quite reasonably fall on many deaf ears.
My view is that the meaning of value investing has been hijacked by a narrow definition of buying companies based solely on a low price-to-book, or price-to-something-else, ratio. From this narrow definition it then follows that any company which is not classified as “value” must therefore be “growth”. Clearly putting 40,000 companies into one of two groups based on just a few numbers is only ever going to provide limited insight.
What value investing means to me is having an opinion about what something is worth based on its underlying economics. If you are not doing this, I believe that you are speculating, not investing. A true value investor will buy a growing business, if she believes it is worth more than she is paying for it. Expecting growth is one way that that you can justify paying more upfront.
I believe that the composition of “growth” and “value” indices increasingly now provides a window onto a popularity contest more than anything else. The widely owned “growth” companies, such as the US technology giants, clearly have business models that are robust to the current crisis and potentially benefit from longer term trends – meaning that owning them feels comfortable. By contrast “value” holdings typically have business models that are cyclical in nature and at worst are threatened by longer term trends. Owning these companies is uncomfortable by comparison. The key question is the extent to which prices reflect these concerns?
The MSCI World Growth Index now has an “off the chart” price to earnings ratio that means that its constituents look very expensive with respect to history. It is the rapidity with which this has happened that makes me believe that the “fear of missing out” has taken hold. By comparison, the Value Index has seen a more muted recovery from its crisis low point.
There are reasons to believe that the world is changing and there are arguments as to why this latest bout of market “FOMO” might not be a bubble. As the most popular companies become ever more expensive verses their economics, so I believe the risk of ownership increases. If this resonates then I suggest that the real risk of “missing out” is that of not having sufficient “value” exposure should the popularity contest reverse. Might it even be that investors are rewarded for the discomfort of owning cyclical businesses in the years ahead?