So-called “value” indexes have severely underperformed the broader stock market for more than a decade. While this is an often-told story, it typically comes without any compelling explanation of why these indexes of purportedly inexpensive stocks continue to disappoint. In this 2 page note, we examine definitional issues with common value indexes and conclude that “value” underperformed because it didn’t in fact represent a better value than the market overall. It was, in a word, expensive!
We provide an update of our U.S. Fundamental Stability & Value strategy’s performance, portfolio changes, and fundamental attributes. We also discuss the equity market’s recent performance in a longer-term historical context, noting that the time period chosen for evaluation can lead to starkly different conclusions.
The U.S stock market has significantly outpaced major international indexes over the past decade. In this short paper, we look at the drivers behind this by splitting price gains into fundamental and valuation components. We find that despite frequent commentary to the contrary, a majority of the appreciation in U.S. stocks can be explained by increased free cash flow and not higher valuation multiples. We also note a convergence in regional free cash flow yields over time such that the relative attractiveness between regions at present rests more on other factors, like stability & growth, where the U.S. continues to compare favorably.
We provide an update of strategy performance and portfolio positioning. We also look at equity market valuations in a historical context, relative to both underlying fundamentals and the valuations of other asset classes. Finally, we touch on “factor” investing and discuss valuation risks we see among popular Low Volatility strategies, as well as definitional problems with traditional labels like Quality and Value.
The composition of the economy and stock market has shifted from physical assets to intellectual ones. This change has significant implications for traditional valuation metrics, requiring a new approach.
We provide an update of strategy performance and the market environment, discuss the dangers of elevated debt levels, and describe the unintended risks investors might be taking as they seek safety in certain stocks with with low price volatility but increasing levels of debt.
We provide an update of strategy performance so far in 2019, portfolio changes and positioning, as well as our thoughts on the mismeasurement of “Value” as it is commonly discussed and what we believe to be underappreciated risks embedded in low beta stocks.
We relate Warren Buffett’s recent comments on book value to our own investment process and make the case that investors buying a “value” index might, unintentionally, simply be taking on exposure to asset-intensive sectors rather than truly under-priced securities.
Our annual review of performance, recent changes to our portfolio, and comments on the outlook for equities in the years ahead.
Adhering to long investment time horizons is easily said but more difficult to do. Emotions and behavioral biases work to erode the otherwise attractive returns offered by equity markets when evaluated over multi-year periods. Properly framing comparisons between equities and other assets—like bonds—can help investors avoid the risk of falling short of return objectives.
The group of stocks known as the FAANGs (Facebook, Apple, Amazon, Netflix, and Alphabet) have garnered significant attention from investors and market pundits—often painted as a homogeneous, overvalued set of stocks. However, we see the FAANGs providing a good example of the shortcomings of traditional valuation metrics. Using our distilled cash yield methodology, a more nuanced view of FAANG valuation emerges.
Investors should consider investment risk as defined by an investment’s fundamental stability, level of indebtedness, and valuation, rather than simply its short-term price volatility.
Deeply rooted behavioral biases can offer exploitable opportunities for a thoughtfully designed, systematic investment approach.
Distillate Capital is built on a few core ideas gleaned from our decades of value investing experience and from the wealth of information and ideas emanating from the rigorous studies of accounting, behavioral finance, and risk management.