This article first appeared in Capital, The Edge Malaysia Weekly on November 9, 2020 - November 15, 2020

FOLLOWING the sharp correction in early March this year, the strong earnings growth prospects of the glove and healthcare sectors led to the euphoria in the local stock market between June and August, lifting Bursa Malaysia’s daily trading volume to new records.

A low interest rate environment, coupled with the loan moratorium factor, tempted many savers to move cash into equities. As investors hunt for yield, the focus has been more on growth, not value. The higher stock prices go, the more compelling they become to many.

Notably, in an October report, titled “Is value investing really dead?”, Schroders fund manager Nick Kirrage pointed out that the last few years, especially this year, have been undeniably tough for value investors.

“In the past few years, compared with market indices increasingly dominated by bond proxies or tech stocks, value-style portfolios have underperformed. In fact, growth investing has outperformed value investing for so long now, some are beginning to wonder if it will ever end,” he wrote.

Briefly, value and growth are two fundamental styles of stock investing adopted by fund managers. A value investor seeks stocks that appear undervalued while the growth investor looks for companies with strong earnings growth.

Citing data from California-based investment management services firm Research Affiliates LLC, Kirrage highlighted that the return on equity (ROE) of American value stocks lagged growth stocks by 11% between 1968 and 2007. Since then, it has deteriorated marginally to 12% (see table).

For sales growth, however, the difference between value and growth has actually narrowed from 8% to 6%, favouring value.

Suffice it to say that US and Malaysian growth stocks have generally outperformed value stocks over the past decade or so, although Malaysian value stocks did appear to have regained a bit of superiority over the last three months (see charts).

As the six-month loan holiday ended on Sept 30, investor sentiment has now turned cautious with many adopting a wait-and-see approach or reducing their positions due to the uncertainty over the US presidential election.

Considering that investors are becoming more rational after the rally, will value investing be the way to go instead of growth?

According to prominent value investor Datuk Seri Cheah Cheng Hye, value investing is about investing in the three Rs — the right business, run by the right people and at the right price.

“Investing is an art, not a science. Like all art forms, it has to evolve to stay relevant,” he tells The Edge.

Cheah is co-chairman and co-chief investment officer of Value Partners Group Ltd, a Hong Kong-listed asset management firm.

He recalls that in the 1990s, he generally aimed to buy cheaply priced stocks, meaning those trading at low price-earnings ratios (PER) or high dividend yields. His focus was on the “right price”, as he found that he could outperform by buying low and selling high.

“From roughly 2009, however, my approach evolved and I started paying more attention to the ‘right business’. This is because I couldn’t outperform anymore by buying cheap. Investors wanted strong business models with high potential, as the world entered a New Economy powered by technology, social media and services, such as healthcare and education,” he explains.

Cheah concedes that he was initially uneasy about this trend, but after a while, he figured there was nothing wrong with the idea of buying value based on identifying the best business models, even if valuations are significantly higher than Old Economy stocks.

“Having said that, I remain very watchful about the dangers of overpaying. We only buy if a valuation can be justified on the basis of careful research,” he stresses.

He says the investment universe has changed much since the global financial crisis of 2008.

For instance, markets are flooded with liquidity, which means there is too much money looking for great investment opportunities. Negative interest rates around the world make it more difficult to justify holding cash.

“Massive government intervention in the economy means that government policy, rather than capitalist economics, greatly influences who emerges as winners and losers in financial markets,” says Cheah.

“I think the investment environment will continue to change and we will continue adapting. For example, tomorrow’s market leaders may not be tech names — they could be something else that’s not receiving attention currently, such as agricultural and food companies, as well as high-dividend and stable stocks, such as utilities,” he adds.

Pheim Asset Management Sdn Bhd founder and chief strategist Dr Tan Chong Koay points out that although his firm practises value investing at all times, it also invests in growth companies with earnings visibility regardless of their size.

“Our investment criteria have built in various investment styles to maximise the returns of clients,” he tells The Edge.

Tan, who entered the fund management industry in early 1976 when he joined SEACorp Bhd — which owned the first unit trust company in Malaysia and Singapore — has been practising value investing for more than 44 years.

“Value investing is among the most commonly practised investment guides. The main reason is that it is easy to understand and has a good chance of success if you are thorough in your research,” he says.

Tan says Pheim’s stock selection criteria include low gearing, rising profit, good management track record and a stock’s undervaluation. Having said that, an undervalued stock can also be a growth stock.

“A market trend can persist for some time, even longer than normal, but it will change. So is the case with value investing. Investors must adjust their investment strategies to meet changes in the new environment. In short, at times, value investing may appear not to be working temporarily but it will not be dead permanently,” he remarks.

Tan is of the view that no one investment style will work all the time, because in reality, each has its own limitation. Therefore, investors should use different investment strategies and styles to grow their funds.

“At Pheim, we are likely to combine value investing and growth investing depending on the situation. We prefer to invest in a company that is undervalued and, at the same time, growing. We have been successfully practising value investing through our investment philosophy for more than 26 years. It should be able to stay relevant for the next many decades,” he says.

According to Tan, investors who invest with a longer-term horizon will have a good chance to reap decent rewards when the world economy recovers.

“If you like to time the market, let me tell you this: You may not be able to get the prices at the lowest point. Very few, if not none, know the lowest point. Buying near the lows is the best you can do. I advise you to take a longer-term view during the crisis period,” he says.

Singular Asset Management founder and chief investment officer Teoh Kok Lin is not particularly concerned about labelling himself as a growth or value purist.

“At our core, we are driven by fundamentals. We seek to holistically evaluate a company’s core competencies, management quality, business model, industry structure, competitive dynamics and sustainability,” he tells The Edge.

Teoh opines that this underlying approach to uncover investment opportunities generally does not change, whether a company is trading at a high or low multiple, growing fast or slow, or deriving value from mainly tangible or intangible assets.

Going by value investing’s academic definition, value stocks are companies which are deemed undervalued against their future worth. Therefore, the stock price of a company is considered relative to some proxy for value, usually book value or earnings.

Teoh notes that traditional metrics such as price-to-book value (P/BV) and price-earnings (P/E) ratios — deemed attractive when low — are largely based on the concept of mean reversion, which suggests that extreme valuations will revert towards a long-term average.

“Everything has to come at a reasonable price. However, given the shift from manufacturing to service- and tech-based economies, we think that simple value measurements using P/BV and P/E multiples have become less insightful,” he warns.

Today, says Teoh, much more value is created from investments in intangible assets, namely patents, brands and customer acquisition, instead of historically, just from physical assets such as factories.

However, not all intangible assets are deemed assets by accounting rules, and as such, spending to generate these intangibles is written off as a cost item in the income statement.

“This means that companies which invest heavily in intangibles may appear overvalued on a P/BV basis despite these assets driving future profitability,” he explains.

While growth and value are often pitted against each other, there are many factors driving share price performance beyond classification.

The stock market goes through cycles of varying length which favour growth or value strategies, says Teoh.

“Even if growth has outperformed value as a group, we have seen selective divergences from the overall trend. Some stocks can be interchangeably classified as growth or value with overlapping characteristics. Some growth companies may show attractive valuations after adjusting for uncapitalised intangibles. A stock can also evolve over its lifetime from value to growth, and vice versa,” he says.

Teoh goes on to say that there are good investment opportunities in well-managed companies, whether driven by industry structural tailwinds, embracing digitalisation in business models, or strong environmental, social and governance (ESG) alignment.

Meanwhile, a seasoned investor who runs a boutique investment advisory firm acknowledges that for the average investor, choosing growth stocks is always a more difficult task than picking value stocks.

“I don’t think I have ever changed my investment style, which is value investing. But occasionally, I do divert from it. I may buy some growth stocks when I see good opportunities. I don’t buy only value stocks. Sometimes, value investors need to buy into growth stocks to make money,” he tells The Edge.

The seasoned investor admits that it is generally true that value investment had been a rather poor investing strategy over the past five to 10 years.

“Most value investors have not been well rewarded. In fact, many of us suffered quite a lot,” he says.

Nevertheless, he firmly believes that value investment is still important and relevant today.

Considering that a lot of shares have collapsed amid the Covid-19 crisis, while many are excellent value stocks, he thinks that statistically, there should be a reversion to the mean.

“To me, I am willing to take that risk and wait for a year or two. After all, growth stocks cannot be growing forever. A good strategy is to emphasise more value stocks than growth stocks,” he says.

“I regard value investment as high dividend yield and reasonable P/BV. We know for sure interest rates will not go up much for a long time. If today, I offer you a stock with 5% dividend yield with stable business, isn’t that wonderful value for money?” he asks.

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