Writers from the Rule Breakers and Inside Value teams are dueling again this week. Which argument gets your vote? Read the commentaries by Rick Munarriz and Chuck Saletta, and then vote for which one you like the most. Also, take a look at the previous duel here and here.
Rick provides what looks like a fascinating example of the triumph of growth over value -- America Online and Time Warner
AOL, as a standalone business is currently terrible, as Rick himself admitted. The corporate name change back to Time Warner happened after it became apparent that the AOL side of the business couldn't carry its own weight. Were it not for the cash flows from the Time Warner side of the house, AOL would today likely just be another bit of unfortunate carnage from the dot-com meltdown. With its shrinking subscriber base and unfortunate "sandwich" market position between cheaper dial-up and faster broadband services, the AOL unit has little to justify its once lofty valuations. Time Warner may be a bit more gentrified than the suitor who bought it, but the more "hardened" firm's cash flows are providing the overall business' strength.
What matters in investing is not where a company came from, but where it's going. There may have been a time when AOL's stock was a high flier. Its tremendous run-up had more to do with the misguided notion that AOL's first-mover advantage would provide an insurmountable moat against all other Internet providers than it did with any fundamentals of the business. How else can you explain its triple-digit price-to-earnings ratio at the height of the tech bubble madness?
In the end, any company whose stock price is based on growth-to-the-sky projections, an ignorance of competitive realities, and a business model that has relatively low barriers to entry is doomed to stumble.
For the original Rule Breakers to have achieved tremendous returns on AOL required incredible timing abilities, the likes of which I know I do not possess. I'll take the Inside Value scoop on some solid stocks on sale any day of the week. The business models are proven, the competitive moats are more apparent, and the growth projections are far more realistic. Give me a temporary bargain price on a solid company over the hope of a potential breakthrough business development any day of the week.
Even Rick has virtually conceded that it often takes several false starts to find one true Rule Breaker. And therein lies the rub; stumbles happen. What happens when the real winner stumbles, ala the core AOL business in recent periods? What protects the investor when (not if) that investor's one superstar holding happens to tumble?
What would Warren do?
There are no guarantees in the stock market. Even Benjamin Graham, the dean of value investing and the man who mentored Warren Buffett, likened investing to playing a roulette table. The difference being, of course, that value investing offers a way to turn the tables and give the investor the edge over time. One only need look at Buffett's stellar long-term performance at the helm of Berkshire Hathaway to appreciate the staying power and long-term potential of value investing. The nearly flat line at the bottom of that chart? That's the S&P 500 return over that same period.
Buffett's billions may be tied primarily to Berkshire stock, but Berkshire Hathaway itself invests its float largely according to value principles. Its most recent annual report lists American Express
That's right -- all three have outperformed over time. And that's the value advantage. Rather than relying on one superstar to carry the show, value investing is about finding a whole team of proven companies, each able to carry its own weight, and each with the potential to provide above-market returns over the long haul. Even when one company stumbles, the strength of the rest of the team can protect the portfolio as a whole.
A lesson from the hardcourt
There's a distinct parallel to be drawn between teamwork in investing and teamwork on the basketball court. Coaching legend and current Duke University men's basketball coach Mike Krzyzewski (Coach K to most of the world), often speaks of "The Fist." Coach K's fist compares the players on the court to the fingers on a hand. Clenched together as a fist, the fingers can be a much more effective unit than they are individually. Likewise, the players on the court can be much more effective and cohesive acting as a unit than as five individual players. Competing in the ACC, arguably among the toughest basketball conferences in the NCAA, Duke's team-focused play is shining through. Until last night's loss to the Maryland Terrapins, the Blue Devils had been one of only three undefeated this far into the season, in spite of having more than their fair share of injuries.
Contrast the Blue Devils' successes in the face of injuries with the flop that was Team USA in the 2004 Summer Olympics. The "Dream Team" of NBA superstars certainly had the potential to kick butt and take no prisoners. Each individual player certainly had potential. Instead, they managed to lose to a much more cohesive team from Puerto Rico by 19 points. In the end, they partially redeemed themselves, emerging with the bronze. Respectable, sure, but well below their potential as individual superstars.
To pull the analogy back to the investing world, Fannie Mae
Or be like Mike
Of course, the superstar model favored by Rule Breakers can work. After all, Michael Jordan carried the UNC Tarheels to champion status in the Big Dance. Likewise, a portfolio of AOL and 11 duds would have outperformed the market, back when AOL's growth presumed no limits.
Given that both the strong team approach and the superstar approach can potentially outperform the market, it's really up to you as an individual investor to determine which method best suits your temperament, risk tolerance, and financial condition. As free trials for both Inside Value and Rule Breakers are just a click away, it won't hurt to take a gander to try and figure out which way fits you the best. As for me and my money? We'll be hunting for value with Philip.