Value Investing Alive and Well in the Roaring 20s

Abstract

Why do some investment strategies outperform others? Is value investing truly dead – as the pundits claim – forever condemned to underperform in the shadows of growth and momentumbased strategies? Or is it still a relevant strategy for the disciplined professional who is willing to search tirelessly for discrepancies between price and value? By defining value using six criteria prescribed by Benjamin Graham in his 1949 novel, The Intelligent Investor, we show that the death of value has been greatly exaggerated. Applying these criteria to all non-financial firms listed in the United States, we show that value – when defined to include more firm-specific characteristics than the traditional book-to-market metric – consistently generates superior risk-adjusted returns since the publication of the book’s fourth and final edition in 1973. Furthermore, this performance exceeds what would be expected given the risk profile determined using widely accepted factor models in traditional literature. This paper shows that value investing – when defined using a more holistic approach rooted in literature which has inspired countless generations of value investors – has consistently performed better than what is suggested by traditional literature. Our research finds that existing definitions of value made – based on B/M alone – grossly misstate the genesis of what value investors strive to accomplish when risking their capital in the pursuit of discrepancies between price and value. This leads us to conclude that value is far from dead, however there are limitations imposed by employing such a strict definition of value, which make adhering to such a strategy difficult for the institutional investor to consistently implement. We deduce that, while the U.S. market serves as a reasonably efficient pricing mechanism, the opportunity to generate positive excess returns exists if one strictly adheres to Benjamin Graham’s time-tested approach to security analysis.