nedsaid wrote: Sun Oct 12, 2025 9:41 am
NiceUnparticularMan wrote: Sun Oct 12, 2025 8:12 amNedsaid: Kevin, what you left out of your analysis above is that at some point very large companies cannot sustain high earnings growth rates. Think of General Electric, it was once so large that whenever you spent a dollar, GE got a penny of it. In this situation, it is difficult for a company to grow faster than the economy as a whole. During the 1990’s, Jack Welch did a lot of creative financial engineering to make it look like GE’s earnings were growing at 15% a year, the reality was that internal growth minus all of the creative maneuvers was more like 6% and probably at most 8%. When Jack Welch, the great puppet master, retired and wasn’t running things anymore, the narrative of 15% earnings growth collapsed and the stock of a great company became a poor investment. At some point, companies get too large, too complex, and too difficult to manage hence such things as spin-offs and sales of businesses. The Magnificent Seven companies at some point will experience the same fate.
So almost by definition, value stocks don’t participate as much in any sort of valuation increase that is happening. Theoretically there could be a market wide valuation increase and yet a contraction between the valuations of value companies and growth companies, but in practice it almost always happens the opposite way, as in fact is happening in the US stock market:
Nedsaid: If I have things to do over again, I would have been more aggressive with my investments and invested more in Growth and less in Value. It is difficult for me to admit this but my investments did well enough that I can now retire if I really want to. My investment generated sufficient returns but could have done better. I underestimated the power of US High Tech. That said, I always had Aggressive Growth investments and individual stocks in the US High Tech sector but I was primarily a Value investor. My first individual stock that I owned was AST Research, a computer company. I definitely am not Tech phobic.
Not quite as dramatically as the dot com era, but the generally high valuation of the US stock market today is happening at the same time as an unusually large spread between growth valuations and value valuations.
Nedsaid: Looking at the chart above that NiceUnparticularMan posted, it was reassuring. Forward P/E’s for Growth are at 28 but were over 40 just before the Tech Crash of 2000-2002. This reinforces my view that valuations are stretched but this doesn’t appear to be a bubble. So my outlook here is cautious but I would never tell people to abandon US High Tech. I am seeing enthusiasm but not euphoria.
Small is interesting–small growth can definitely participate in a market valuation expansion, maybe in some ways even more so than with larger companies in some scenarios, whereas small value tends to be even less participatory in market valuation expansions than larger value companies.
Nedsaid: Ironically, among my best investments were in Mid/Small Cap Growth, I had investments in American Century Heritage and Vista and they did relatively well, even during and after the 2000-2002 Tech Crash. Later on, I invested in their Small Cap Growth fund and have been pleased with it, I still own that fund and Heritage. Vista was merged into Heritage. Despite what Larry Swedroe said, Small Growth is not the black hole of investing, that is if you screen out the junky companies.
I note none of this is particularly dependent on things like Fama-French regressions, although there might actually be some explanatory relationship. This is actually a way more fundamental sort of analysis than that, the sort of thing value investors were talking about long before the multi-factor evolutions of CAPM were being developed. Value investing keeps you more weighted to boring but profitable companies, as opposed to the sorts of “exciting” companies that are getting high valuations because investors are expecting a lot of future earnings growth. It is actually the origin of those terms, value and growth.
Nedsaid: Value is boring but profitable and you don’t get the speculation that gets built into Growth stocks. Boring is beautiful and you don’t get the pricing risk that comes from too much investor enthusiasm. Value investing isn’t dead, far from it, it has done well but suffered in comparison to the awesome performance us US Large Growth in general and US High Tech specifically.
Anyway, depending on what is going on, this will also de facto shift around your sector allocations, with value and particularly small value almost always being less weighted in whatever is the “hot” sector for market.
Nedsaid: I have long believed that Sector investing was the precursor to modern Factor investing. Even naive investors realize that industry sectors have different performance characteristics from each other. Utility stocks behave a lot differently than High Tech stocks. I think this clued great thinkers into a view that factors that explain the difference in performance of stock portfolios are a thing. One of the first clues was that Low Volatility stocks did better than expected from the CAPM (Capital Asset Pricing Model) model and that High Volatility stocks didn’t do as well as the model predicted. There was more at work than just Market Beta.
So, these days, VTI is up to 32.53% Tech as per Yahoo Finance. Just boring old VBR is at 8.57%. Big difference. Globally, VT is 25.65% Tech. A lot less different, and that includes because VTI is such a large component of VT. VXUS is down at 13.37%, so much less again, although not as much less as VBR.
And then something like AVDV, an ex-US SV ETF, is only 4.34% Tech. In turn, even though AVGE is actually 70% US, it is only 17.47% Tech. So not as much as VT.
Again none of this really depends on Fama-French sort of reasoning. Much more basically, right now it is tech-related US megacaps driving high valuations in broad US market indices and in fact global indices. Value, and in particular small value, as a matter of practice almost always is not in whatever is “hot” like that. Because this is being led in the US, International Small Value is farthest out, but US Small Value is quite far out too.
Nedsaid: Yep. Value is boring and Growth is exciting. Investor enthusiasm or lack thereof is a big factor that drives valuation. In short, investors get too pessimistic about Value and over time too optimistic regarding Growth. This is why there are factor premiums.
By the way, the sectors above Tech in VBR are Financials, Industrials, Consumer Cyclicals, and Real Estate. In AVDV, it is Industrials, Basic Materials, Financial Services, Consumer Cyclicals, and Energy. Somewhat typical, but there is a whole OTHER story about infllation protection that also pre-dates Fama-French.
I’ll just note that growth often outperforms value for long periods of time. So there are many historical points at which it would have been easy to say investors would have been better off with more, or only, growth instead of value.
But usually those are times in which those with a modest value tilt are also doing very well. Not as well as they could have without tilting, with the benefit of hindsight, but that is more a FOMO logic than an actual risk of plan failure.
To the extent value has helped, it is usually because the investor ran into a nasty valuation contraction at the wrong time, and particularly if there is also unexpectedly high inflation. In that sense, value is playing a similar role to things like bonds or particularly TIPS.
So I tend to think more in terms of whether my value stock holdings have done better for me than bonds/TIPS, not growth stocks or indeed market. But if you do compare them to growth or market, well, you should know you will likely go through many long periods where growth/market investors will claim bragging rights. It is just likely you will be doing quite well too, even if not as well as them.
