After honestly assessing the investing milieu and concluding the milieu of today will be the milieu of tomorrow, I have cut myself free of my Ben Graham moorings. This is no easy decision, mind you. I also jettison a lot of intellectual capital, considering I have been moored to Graham’s philosophy for the past 35 years. Yes, sunk costs are sunk, but sinking sunk costs can stink.
The Graham philosophy, as investors in their Buick-driving years will attest, centers on dividends, intrinsic value, margin of safety, working capital, coverage ratios, and relative value. I was somewhat late arriving to the Graham philosophy, considering the first edition of Security Analysis (Graham and Dodd) was published in 1934 and the more-easily digested The Intelligent Investors was first published in 1949.
The philosophy, particularly as explicated in The Intelligent Investor, proved to be a persistant tool of efficacy when I entered the investing scene as a mere stripling in the mid-1980s. Stocks were still priced in dollars and fractions thereof, discount brokers were promoting $45 trades as bargains, and stock research involved a trip to the local library and a laborious scrolling through four-inch-thick ring-bound notebooks composed of Standard & Poor’s and ValueLine stock reports. These frictions, inconveniences, and inefficiencies offered a competitive advantage for the industrious investor. I was industrious.
But industriousness can carry you only so far when progress knocks on, and then beats down, the door. The milieu I knew was obliterated in the mid-1990s due to the big-bang impact of the internet. Shares switched to being priced in dollars and cents. Discount broker fees dropped to single-digit dollars for a one-way trade (now zero dollars).
Egalitarianism was the most dramatic change, though. The velvet rope was also obliterated. Information formerly available to the few had become available to the many. Anyone could enter any combination of the Graham criteria into a premium internet stock screener and within the time required to click the mouse, be delivered all the stocks that met the criteria (a feat that used to cost me a full day at the public library). Add an exponential increase in Graham-criteria vetting, and the pricing anomalies – value as per Graham – were bid away before 99% of investors know they existed. The end was inevitable: Imitation might be the sincerest form of flattery; it’s also the surest way to render a successful investment strategy feckless.
Preferences further eroded the criteria’s efficacy. Investors today prefer growth to discounted value (at least discounted as perceived by Graham and Dodd). They prefer buybacks to dividends. They prefer to create their own “dividends” at their own convenience by selling price-appreciated shares. The preference switch is understandable. Investors receive the cash flow on their terms, thus avoiding a potential tax liability for cash flow they neither wanted nor needed.
It’s nothing new, as I write. High-yield stocks have been on the outs for years: Altria Group, Exxon Mobil, AT&T, Verizon, Walgreens, Kraft Heinz, all companies with viable businesses, have been dead money for the past decade. High-yield stocks, as a category, have been relegated to equity versions of high-yield bonds, and not even that. At least high-yield bond prices rise when interest rates fall. Interest rates have mostly fallen since the 2008/2009 recession. The share prices of the aforementioned dividend aristocrats have mostly followed the credit market’s lead on interest rates. Underwhelming growth prospects have reduced their popularity to that of the photographic-film camera.
In the glory days that ran from Leave It to Beaver through Barney Miller, you could buy stocks that met Graham’s criteria, hold the shares, and wait for the price to return value to a historical mean. Perhaps it would be a return to the mean of the historical price-to-earnings ratio or to the mean of the historical dividend yield. The Graham criteria, with some modification, even worked up to the days of Different Strokes, or whatever mid-1980s pastel-pastiche television frivolity, stole my time.
I’ll concede that I am being cavalier extoling Graham's virtues. It was never as easy as nostalgia leads us to believe. The mean was never a static number. Many former S&P 500 and Dow Jones Industrial component stocks saw their share price drop to check nearly every value criterion explicated in The Intelligent Investor, and, in many instances, the criteria were checked to the extreme. The value proposition flashed and rang like a slot machine after a successful pull of the lever. But then a disturbing trend would emerge, value would beget more value and more value and, yet, more value still, until it dawned on the beguiled investor that it was all a mirage. There was no value. It was all a prelude to a bankruptcy.
Be greedy only when others are fearful? A clever bromide easy enough to spout when stock prices have trended only higher for a decade. Buying when a stock's share price spirals relentlessly lower is another matter. To be sure, fear can prove irrational in hindsight, but not always. Fear is frequently justified. The mean can ratchet lower and, with zero the product of the final ratchet.
So, now I have a problem. Having been inculcated in the ways of Ben Graham, I find it difficult to cut the final threads to my moorings. Financial companies, which serve primarily as intermediaries, and the industrial types, whose value is derived using hard assets to manufacture tactile consumables, frequently stuff that either rusts in the rain or is destroyed when consumed, populated my portfolio. This was the field of value, and the field had become as barren as the Oklahoma panhandle during the dust-bowl years.
I have yet to develop my growth bona fides. I’m not too proud to beg, though beg isn’t the right word, just a self-deprecating one. I am intelligent enough to buy time to develop my bona fides and adjust to the new world order. I no longer have qualms about liquidating my traditional portfolio of financial intermediaries and industrials and investing the majority of the proceeds in mutual funds run by managers whose skill at anticipating the future exceed mine.
Notice I said mutual funds, not ETFs. Contrary to popular propaganda, you can buy into mutual funds run by managers who have generated superior long-term returns that exceed their respective benchmark. (I hold the S&P 500 as the default benchmark for all equity funds.) Yes, past performance is no guarantee of future success, but it’s usually the smart way to bet. And don’t be cheap about it; performance is always worth paying for. To pay 1.2% annually for a mutual fund that earns 12% on average annually or 75 basis points for a fund that earns 9% is a non-starter at best.
I know a few inveterate value types who swear time will resurrect Graham-style value to its former glory. I’m skeptical. Once something goes away, it usually goes away for good. It has been over two-thousand years since the last successful resurrection was reported.