My Single Greatest Investment Mistake.

…”In closing, I look forward to future communication with a FELLOW VALUE INVESTOR“.

More than a decade back, I penned an article indicating my decision to forever abandon “value investing”. The choice was made upon a preponderance of real world evidence, supplemented with my multi-decade data assemblage, which confirmed time expended/expensed/directed towards sifting through equity discards consigned to the scrap heap, attempting to profit from fallen angels, betting upon turnarounds; these activities represented profit limiting exercises instead of profit maximizing actions.

Replication of my data in real life isn’t at all a challenge for investors, even for those outside of the industry. Cursory reviews of the top performing equity funds, and equity indexes, over decades, confirms return differences which separate growth oriented investors from value oriented investors are sufficiently stark that one wonders why value investors exist all at, let alone maintain their investment policies to be superior. Even more curious, most value investors hold themselves up to a moral high ground over growth investors. After multiple decades of growth outperformance vs value underperformance, they maintain a burgeoning number of growth billionaires globally to be posers, on a winning streak about due to end.

Idolatry of value investors exist on shaky foundations. Most value investment billionaires did not compound their billions from return. No, their personal wealth has grown by skimming off a percentage of the modest returns achieved for unit holders of their hedge funds (2 and 20, 1 and 10, .5 and 5). Others maintain their standing entirely on the basis of inheritance, nepo billionaires. A few others, highly feted by value sorts, have, almost begrudgingly, produced far higher returns on a few growth securities tucked into a value oriented corporate framework, all the while underachieving on their touted value picks. Absent the growth securities in notable portfolios, in almost all cases, these purported illuminati returns suck eggs. Value investing, as a practical means of wealth-building, died decades ago; value investors refused to read the obituary. Most of the ultrawealthy never bought into value investing in the first place, those that did have generally moved on or have fallen so far down global rankings that their patina has worn thin.

My “Eureka” moment occurred as I moved portfolio modeling away from comparison of equity returns against cash yields and fixed income returns, to a modeling comparison of return against equity inflation.

For those who actively practice equity selection using a set of parameters designed to exclude companies on the basis of their “overvaluation” against their predetermined preferences, they build portfolios on the basis of avoidance/minimization of risk, of earning a return above the cost of capital. Value investors tout these returns, not against better performing equities or indexes, but against cash, treasuries or consumer price inflation (CPI). Excluding comparison against better performing equity groups presumes that value investments cannot compete on the basis of return, therefore, they do not. Apples to apples comparison of portfolio return is out to a value type, because direct comparison reveals the fatal flaw of value investing, that being inferiority of return over multiple years.

I incorporate global equity index returns in my worldview. To me, they aggregate various pressures, consumer oriented, producer oriented and cost of capital oriented, all culminating as a quick and dirty measure that is, for lack of a better term, equity investment inflation, or IPI. Is not equity appreciation just another way of expressing or measuring inflation within a portfolio?

If you exclude the basic cost of capital, to a great extent driven by interest rates, and instead focus upon equity values themselves as an inflationary measure, this upends one’s world view completely. When your equity portfolio grows in value by 20% and indexes grow by, say 30%, are you not falling behind as compared to the bulk of the planet’s equity investors? Taking into account the fact indexes now control more equity capital than active investors, this represents a highly accurate statement. So, if your equity accounts do not at least perform in-line with an index, on a very real basis, you are falling behind.

Put another way, if equity markets advanced by 25% in this fiscal year, and you wanted to participate in the pro-rata ownership of a top performing package of equities, then you will need to stump up 25% more money than last year to get on board. That, by definition, represents a form of inflation…investment inflation. Failure to maintain investment purchasing power, to keep up with inflating equities, requires that you engage in trade-offs. These tradeoffs are stark; either you must hold lesser quality equities that have failed to perform, or you must opt to hold a smaller quantity of higher quality equities, due to the inability of your value portfolio to “keep up”. Let us revisit a real estate analogy, when you underperform, your investment capital is in the wrong location, and real estate returns are all about location.

You only underperform when you fail to own performing equities. That is a choice, to exclude certain equities. In other words, a percentage of those in the equity markets deliberately choose to underperform, via their process of elimination.

Time represents a key part of the compounding of wealth formula so why squander/expense ANY of it on value investments.

My greatest investment mistake is not the ownership of any specific equity that didn’t turn out. No, I sell off dogs as quickly as they derail.

My greatest mistake is not prematurely selling off winners. No, they are held until the secular thesis comes to an end, and secular trends can run for multiple decades.

For several initial decades of my wealth accumulation journey, I pursued making the most of the “investing for value” model. It was chafing. Stubborn, hide-bound absolutists that make up the sub-class of equity owner cannot be reasoned with, because their life choice is to avoid capital risk at all costs; in doing so, they refuse to own return. Breaking free of absolute constraints, that exist for no other purpose than to exclude excellence, rather than include them, has been the best thing I ever did. Which means that value investing was my greatest mistake, the worst thing I ever did.

Going back to a prior decade, I wrote the same. Today, I have to write it again, because a bunch of external readers either didn’t get the memo or refused to read it. They do profess to read every single article written on companies owned for the portfolio, which cannot even remotely be considered value, have never been, were not at the time of acquisition, and disregard that incongruity entirely. No, they WANT a value investor to look up to, to support their investment underperformance as just a temporary bad run.

I ain’t your Huckleberry.

Value investors are unreasonable zealots. When faced with reams of refuting data, they seek to make their world smaller through the process of elimination. Superior returns earned by growth investors, to a value type, represent a point of envy, rather than an opportunity for exploration. Such a worldview is based entirely upon a negative perspective; that growth investments will ultimately fail (revert to mean) and then value investors will swoop in, at a time they decide to be of reduced risk. It is madness to base one’s investment worldview upon envy. When I hear from those, either in the professional investment industry, or by retail wishing to establish some rapport, for no other purpose than to seek out moral support for failed investment modeling, klaxons sound immediately. Such interactions always end badly, the only question is when. Now, I prefer to expedite the inevitable as there is no point attempting to reason with unreasonable people.

I have written that my basis of communication is to establish mutuality.

My models have nothing in common with those of value investors, there can be no mutuality, not now and likely not ever. Emphasis on value investing at the outset of my wealth building practice represented a misdirected expenditure of time that will never be regained. The mark of a good investor is a willingness to learn from mistakes so as not to repeat them.

A value zealot, in contrast, presumes that the rest of the world is wrong and they will, one day, given enough time, be proven right. They will not acknowledge failure, they ignore, and then accept, inertia, as part of the value package

Inertia is not compounding.

Time is too valuable to be expensed. Value investors have no intention of moving forward and I do not intend to revisit a dead end research path. Therefore, any future communication between myself and “value” investors has officially come to an end. I don’t wish to change them, and certainly don’t initiate contact to heckle. There is no “looking forward to communication with a fellow value investor”, as I am not one.

“Gotcha!” crows the rebuffed value sort. “By ending interactions with value investors, are you not doing exactly what you accuse us of doing, shrinking your universe?. You aren’t any better than us!”

I don’t claim to be better. I do own better performing investments, but that’s a choice. They, on the other hand, chose to exclude investments demonstrating historically superior performance, purely on the basis of price. No, life is about fulfilling potential, about productivity. Exposing a value investor bias, be it conscious or unconscious, consumes about 7x more of my time than I typically expend on communication with open minded sorts. Ceasing a highly unproductive interaction, as a result, affords me 7X greater incremental communication time for other investors, professional or otherwise.

Furthermore, as a value bias can almost never be overcome, as it requires a significant deprogramming effort that value sorts don’t even care to entertain, any time I put into my interactions with them is not an investment; it is an expense, to written off in a very short duration.

In contrast, time diverted away from value types and towards curious, open-minded investors; this can lead to durable relationships persisting for years, decades. My responses are no longer expensed up front, they are amortized over the life of that relationship. Time is money. Time permits compounding. This is an expansionary move, not a limiting one.

The late Charlie Munger declared:

“You only have to get rich once. You don’t need to climb this mountain four times. You only need to do it once.”

Upon that achievement, he went on to illustrate compounding of return can become the primary driver of wealth building. Which then leads one to ponder:

“would you prefer to get rich the hard way, or the easy way, the second slowest way possible or via a faster route?“.

If the benefit of becoming rich in equity markets is the compounding of return of capital above your spending requirements, why choose to travel to that destination in a clunker, on a stony path, littered with wreckage?

Time is every bit as valuable as capital for wealth building. Objectively, most of the value industry is propped up by hedge fund managers who build their wealth upon marketing of a rigid framework that deliberately excludes direct comparison against superior returning subclasses within the equity markets. I rue the day that value investing was introduced to me as a mechanism for personal wealth building. The incongruity of modern value investing is that it remains, in equal parts, a system for evaluation combined with a cult of personality whereby certain managers are held up as idols, to be followed blindly. When value investments underperform, the cult of personality then surfaces as a fallback:

“well, investment persona “Y” owns it, so just you wait.”

And you wait, and wait, wait some more, and gum up YOUR compounding machine.

Once you are afflicted with the value “bug”, like any pernicious virus, it remains in your system, attempting to resurface and infect your investment modeling. When left untreated, it will result in you adding value equities to a previously healthy growth portfolio. This contamination disrupts compounding. My preference is to stay well clear from any in the contagion phase of their infection.

You only have to get rich once.

What is the logic of minimizing the compounding effect? What reasonable person chooses to actively hold back such success?