Bill Nasgovitz And Will Nasgovitz 2022-12-29 10:45:29
For the two years ended September 30, 2022, value stocks have outpaced growth based on the monthly index returns during the period, with the Russell 2000 Value® Index up more than 30%, while the Russell 2000 Growth® Index has been down more than 5%. This begs the question, will value continue to outperform in 2023?
While we believe that the time-tested strategy of investing in overlooked and undervalued securities is poised to benefit in the current environment— as the speculative mindset, fueled by a decade of “easy money,” seems to be over—we contend that this is not the question investors should be asking. Instead, more importantly, can value be counted on to beat growth over the next decade? And by how much?
In Heartland Advisors’ nearly 40 years of investing history, value stocks have outperformed the broad market, confirming our 10 Principles of Value Investing®, which focuses on well-managed, financially sound businesses at low prices relative to earnings, cash flows, and book values. True, there have been, and likely will be frustrating stretches—lasting potentially for years—where value struggles mightily against flashier growth stocks. Thus, to enjoy value’s outperformance requires a tremendous amount of patience to avoid mistiming the market and missing gains along with the opportunity to compound those dollars over the long term.
The famed investor Jesse Livermore offers this advice: Those “who can both be right and sit tight are uncommon.” Yet the potential reward for sitting tight and trusting value can be far more valuable than many investors assume. When we ran the numbers on small-cap securities, even we were surprised by the extent of the historic outperformance of value over the past several decades.
Assume that $10,000 was invested in the Russell 2000 Growth and Russell 2000 Value Indices at the start of 1979. By September 2022, the potential investment in the small growth index rose to approximately $460,600. However, small value grew to approximately $1.4 million—roughly $1 million more. That’s a startling three times as much.
With so many tech giants like Amazon or Tesla starting out as small-cap growth companies, how is this possible? Remember, generally small businesses are inherently riskier due to their limited access to capital and concentrated customer bases. So, while “the next Amazon” may be more likely to emerge from the small-cap growth universe, the same could be said for the many that disappoint.
When investing in small caps to mitigate this risk, we believe it’s important to focus on potential margins of safety. In our view, this requires focusing on companies with solid balance sheets, low price to earnings, and the capacity to self-finance their growth. This may not be the splashiest way to invest. But the potential outperformance of value investing— as the chart above illustrates—speaks for itself.
As speculative excesses have been wrung out of the marketplace, the valuation disparities between growth and value have narrowed. However, the Russell 2000 Value is still priced at only 9 times earnings, well below historic levels. This should bode well for long-term investors.
Bill Nasgovitz is Chairman and Portfolio Manager and Will Nasgovitz is CEO and Portfolio Manager of Heartland Advisors.
Learn more at www.heartlandadvisors.com and Linkedin.
Click here for important disclosures: www.heartlandadvisors.com/2023-Market-Outlook-Disclosures
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