Doc’s note: Today, I’m sharing an essay from my colleague and editor of Extreme Value Dan Ferris. In it, Dan explains what will happen when the stock market mania finally ends and why we’ll see one classic investing model return to glory.
Recently, Dan revealed what he calls “the No. 1 stock recommendation I’ve made in my 20-year career.” According to Dan this is the “biggest margin of safety you’ll ever find in the market, with the chance for such massive upside.”
I (Dan) have warned about the ongoing stock market mania since May last year.
And if you’ve ever wondered what comes after the mania and its inevitable crash, this is the answer…
I believe we’re about to see an extended period in which buying good businesses trading at historically cheap valuations – “value stocks” – results in much higher returns than buying fast-growing businesses trading at high valuations – “growth stocks.”
Today, I’ll explain more about this idea – and why the Golden Age of Value Investing has finally dawned…
The market cycles consistently between growth and value. Growth has outperformed since 2009.
But if you look at the stock market’s history and developments in certain sectors of the economy today, the signs show that value could soon overpower growth again.
Just look at this comparison of the Russell 3000 Value and Growth Indexes from the dot-com era…
If you look closely at the chart, you’ll see growth outperformed value the whole time, even in the early years of the dot-com boom. When the boom went manic around 1998, growth stocks rocketed higher.
This resulted in the single most overvalued moment in U.S. stock market history. (Until recently, perhaps.)
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We know what happened next… Technology stocks, telecom stocks, and other Main Street and Wall Street favorites melted down. Many of the survivors – like Internet leader Cisco (CSCO), chipmaker Intel (INTC), telecom behemoth AT&T (T), and troubled industrial giant General Electric (GE) – still haven’t seen their share prices return to dot-com era highs. Many companies went to zero.
After the crash, investors ran from tech stocks. They returned to more conservative, value-priced plays in mining, banking, housing, and mortgages. A new crop of value investors was born. The cycle shifted. And value trounced growth…
So what happened? What set up the outperformance in growth stocks that we’ve been seeing over the past several years?
It was the financial crisis of 2008…
Wall Street turned conservative housing, mortgage, and banking plays into toxic waste through excessive leverage and complex financial schemes like collateralized debt obligations (“CDOs”) – “layer cakes” of risky debt securities that blew up in the financial crisis – and credit default swaps (“CDSs”), which were insurance policies on those piles of toxic debt.
Leading up to the collapse, all the mining, housing, mortgages, and other previously cheap and safe opportunities got absurdly expensive. The mania accelerated as individuals locked in cheap mortgage rates for overpriced housing and engaged in “flipping” (buying and selling houses for a quick profit).
We know what happened next… The housing bubble imploded. The biggest economic crisis since the Great Depression nearly destroyed the global financial system. And investors fled the poisonous assets.
Feeling burned by the value plays gone sour in the crisis, investors turned back to technology, including social media, e-commerce, solar power, and electric cars. Growth has outperformed value since 2009…
We’re nearing the end of the growth cycle. And it looks like value is about to take charge once again.
Over the long term, value trumps growth. As I wrote to my Stansberry Research colleagues in October…
A study by Nobel Prize winner Eugene Fama and Ken French, two of the greatest investment researchers of all time, compared value investing with growth investing in 13 markets around the world and concluded:
“Value stocks have higher returns than growth stocks in markets around the world. For 1975-95, the difference between the average returns on global portfolios of high and low book-to-market stocks is 7.6% per year, and value stocks outperform growth stocks in 12 of 13 major markets.”
In market after market all over the world, value investing can’t be beat.
Investors forget about the power of value strategies and need to rediscover them every 10 years or so. This time is no different.
Growth has been in charge since 2009 – the second-longest bull market on record. Based on history, we can expect at least eight years of value outperformance when this growth cycle is done.
This next period could be the Golden Age of Value Investing. And for investors focused on buying great businesses at cheap prices, it could be one of the most profitable times you ever see in the markets.
Recently, I told my Extreme Value subscribers about a stock that could give you the chance to see 20 times your money over the long term, beginning immediately.
If I had to put every penny of my life savings into one company, this would be it.