Reimagining value investing for the tech era

In his book, author and fund manager Adam Seessel makes a strong case for embracing the transformative power of technology stocks in order to stay ahead in the market

Where the money is: Value investing in the digital era

Author: Adam Seessel

Publisher: Simon & Schuster

Pages: 272

Price: Rs 1,534
 

On New Year’s Eve of 2014, Adam Seessel, a journalist-turned-fund manager, was staring gloomily at a printout of his fund’s performance for the year. The S&P 500 was up 13-14 per cent, but Mr Seessel’s fund was down 4-5 per cent. An underperformance of that magnitude has the potential to end an investment manager’s career. It forced Mr Seessel to reflect hard on his investment approach and ultimately led to a profound change of course.

Mr Seessel, the author of this book, began his career as an equity analyst at Sanford C Bernstein, where he learnt value investing and the mantra of “reversion to mean”. The latter term means that everything ultimately reverts to average levels: Overpriced stocks correct and those trading at low valuations eventually rise.

In 2003, the author started his own investment firm and created a respectable track record over a decade. Then, without warning, his foundational principles, which had served him so well until then, stopped working.

Peter Lynch taught that the way to invest in the stock markets is to invest in superior businesses and then let compounding work its magic. Today, most superior businesses are getting created in the digital-technology sphere. Over the past decade, technology stocks’ share in America’s total market capitalisation has risen while old economy companies have lost ground. 

But traditionally, value investors and the technology sector have been like oil and water. Value investors pick stocks that are available at a bargain price, while technology stocks’ valuations are perpetually high and moving higher. 

But like Mr Seessel, many fund managers who have been using the traditional value investing approach, have found themselves underperforming. In 2014, Mr Seessel’s portfolio contained companies such as Avon (a door-to-door seller of beauty products), Tribune (owner of newspapers and television stations), and so on.

In the past, when the author had invested in such inexpensive stocks, their prices always reverted to mean, allowing him to earn a decent return. But now that reversion was not happening. And that, the author realised, was because these companies’ best days were behind them. They had turned into value traps. And the players that were grabbing market share from them belonged to the tech sector.

The naysayers believe technology stocks’ high valuations (before the 2022 correction) represent a second dotcom bubble. But today’s technology giants, such as Alphabet, Amazon, and so on have loyal customers and massive (and growing) revenues and profits.  

The naysayers also fear governments will bring in legislation to curb the tech giants’ freedom, affecting their ability to create wealth for investors. But, as the author points out, products such as Google Search, WhatsApp and Facebook, are so tightly woven into the fabric of users’ lives that governments will find it nearly impossible to curb their usage.

Value investing has evolved in the past. Benjamin Graham, who founded this discipline during the Depression era, invested in companies whose current assets exceeded their current liabilities. But as America prospered, finding such cheap stocks became difficult. So, his famous acolyte Warren Buffett started investing in quality companies with moats, which could increase their earnings sustainably for years, even if this meant paying a higher price.           

In 2016, Mr Buffett surprised his legions of fans within the value investing community by buying Apple stocks worth $7 billion. At Sanford C Bernstein, John Templeton’s dictum had been drummed into the author: “The four most dangerous words in investing are: It’s different this time.” But when Mr Buffett invested in Apple, the author experienced an epiphany. It was as if he had received confirmation for what he had been suspecting for some time: The world had indeed changed and become increasingly digital and tech-led. 

In the rest of the book, the author explains how value investors should adapt their approach so that they are able to invest in tech stocks.

Over the past few years, the tech sector in the US has seen through a boom and a bust. It is now on the path to recovery. Looking beyond these short-term cycles, common sense tells us that businesses and, in fact, our entire lives are being transformed by technology. Instead of resisting the tide, smart investors need to study these businesses, understand how they create value, where they derive their competitive advantages from, and begin investing in them.

To quote a memorable (and witty) line from the book: “I recalibrated my instruments and focused my attention on the digital economy, not because tech is sexy, interesting, or beneficial to society. I did it for the same reason Willie Sutton robbed banks: It’s where the money is.”

While readers need not adopt the author’s views hook, line and sinker, there is a lot of truth in what he has to say. Now that global stocks are available in India, smart investors here should read this book and think about its message.