David Dreman, arguably the best-known and most fastidious researcher for value investing, led his January column in Forbes magazine with this confession: "Last year was another poor one for the kind of value investing espoused in this column. While the S&P 500 climbed 16.9 percent to Nov 22… the 51 buy recommendations I made were up only 5.5 percent. As value wobbled, technology took off. The Nasdaq 100 index stocks… were up 66 percent." (In fact, the gap was larger--- both the S&P 500 and the Nasdaq 100 indices soared in December.)
Ed Walczak, portfolio manager for U.S. Value Fund, was so horror struck by 1999 that he gave his December memo a Gothic Haiku title: "Three Clouds Raining." Then he went on to say, "1999 will turn out to be my worst year ever as a fund manager in my 11 ½ years at Vontobel. Year-to-date, the U.S. Value Fund is down 16 percent while the S&P 500 has risen about 16 percent." (In fact, things got still worse by year end: his fund lost 0.77 percent in December while the S&P 500 Index soared 7.43 percent.)
Even the famous "Dogs of the Dow" value strategies failed dismally. According to Beating the Dow, a newsletter on using the strategy made popular by Motley Fool, the ten highest yield Dow stocks provided a total return of 2.7 percent while the more concentrated Dow 5 Strategy (Dow stocks with the highest yields and the lowest prices) lost 5.2 percent. All while the Dow Jones Industrial Average was providing a total return of 20.0 percent.
This is not a special collection of value investing miseries. Averaging all the value and growth funds that invest in large company stocks, I found a massive performance gap. While the average large company growth fund returned 38.63 percent last year, its value counterpart had a return of only 6.59 percent. Even the three-year gap is terrifying: growth 31.38 percent a year compared to 14.73 percent for value. With a gap like that, $10,000 invested in the average growth fund grew to $22,677 while the same investment in value grew to "only" $15,102.
The Incredible Value/Growth Gap
|Measure||1999||3 year annualized return||5 year annualized return||10 year annualized return||15 year annualized return|
|Large Growth Funds||38.63||31.38||28.47||18.63||18.07|
|Large Value Funds||6.59||14.73||19.31||13.95||15.10|
|Vanguard 500 Index||21.07||27.53||28.49||18.07||18.68|
Source: MorningstarDoes this mean value investing is dead?
Maybe, maybe not. While a great deal of research supports the idea of being a cheap and careful buyer, without better performance for value, soon, we'll probably watch most of the 600 large company value funds hemorrhage from net redemptions as investors bail out.
But should the money be moved to growth funds?
Enter the wise and patient Couch Potato Investor. While growth stock funds certainly had a lot of sizzle in 1999 and showed well over the last three years, take a look at their performance over longer periods compared to the Vanguard 500 Index fund--- the average growth fund only tied the index fund over the last 5 years, beat it by a tiny margin over the last 10 years, and trailed it by a tiny margin over the last 15 years. Basically, the long-term contest between the average growth fund and the index is a dead heat.
More important, there is the matter of odds. If you put all domestic equity funds--- growth, value, and in between--- in a big grab bag, close your eyes, and try to pick a top fund, the odds are stacked against doing better than the low cost, passive index. While 40 percent of all domestic stock funds did better than the Index in 1999, the best showing in years, only 21 percent did better over 3 years, 14 percent over 5 years, 22 percent over 10 years, and 17 percent over 15 years.
The message for you and me? Let the philosophers pursue their grail of growth or value. Over periods of time, we'll end up with more money through cosmic passivity… and we'll do it 4 times out of 5. That translates into a batting average of 800.