The Implicit Bets In Value vs Growth

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In this week’s episode of the VALUE: After Hours Podcast, Taylor, Brewster, and Carlisle discuss the implicit bets in value vs growth. Here’s an excerpt from the episode:

Jake Taylor: Sure. I thought it would be maybe fun or instructive for us to try to add a little bit of nuance around this stretch rubber band idea between value and growth. All the value investors have seen this, all these charts that come around about how much growth has outperformed value. And I thought it’d be interesting to see if we might be able to back into what are the implicit bets that we’re making and are we really even cognizant of them if we are more of a quantitatively driven sort of like we’re going to buy the cheapest basket of value right now.

Jake Taylor: Maybe it doesn’t apply if you’re a among our three stock portfolio guy. But if you’re a more 50 plus and you’re just trying to approximate values, outcomes historically with your current portfolio, what’s the implicit bets that you’re making? So more specifically, I thought it’d be interesting to decompose really, what are the factors that you’re trying to figure out here and specifically the multiple that people are willing to pay for glamour versus value and the underlying fundamental business changes that may happen in between those two companies. You guys have any initial thoughts at this point before I try to drill even deeper into that?

Tobias Carlisle: I would just say that I think that OSAM have done a few good pieces and the latest letter also deals with this, but basically value is doing what it has always done, to the extent that it’s not been rewarded, its multiple expansion has not occurred. There’s been the reverse there’s been some contraction in it, where traditionally what happens with the growth companies is that they do see that very high growth in the earnings, but they see a little bit of multiple contraction. They’ve seen the expansion. So it’s just been that is unusual. Maybe that is the brave new world, I don’t know. But it’s still unusual. We don’t have enough data to sort of say that the world I think has flipped, but maybe you’ve got to start thinking that that’s a possibility. I don’t, but you know, got to start thinking for the luck.

Jake Taylor: Yeah.

Bill Brewster: Jake, what are you asking specifically? Are you saying like the underlying business risk, what would be some of the commonalities that we’re betting on or are you just saying like from a factor perspective?

Jake Taylor: Kind of more a factor like so if you’re buying value today, are you buying it because you believe that multiples will expand in value or do you believe that growth multiples will contract? Do you think that the business for whatever reason of glamour will maybe slow down a little because it has been a really good year or a good decade for growth companies, their underlying businesses have done better than historically? Or is it a matter of is it possible that the multiples will come down for both glamour and value from here? These are, I think actually pretty important things to untangle if you are going to be making a value basket type of bet.

Bill Brewster: Yeah, so I just off my like gun, I would say that value is more likely to continue to perform like it has, but glamour is likely to potentially hit a hiccup. I don’t know if I hedged my words carefully enough, but specifically with SaaS I went out with scuttleblurb this weekend and we were talking about how in technology the nature of technology is that there’s a winner and then a bunch of other companies sort of build their ecosystem around the winner. And right now a lot of the SaaS names are priced as if they’re all going to be the winner that everyone else comes around.

Bill Brewster: And by definition there can only be a few of those. So that’s why I always say if you really know what you’re doing in that space, it’s probably a good space to play in. But I think a lot of people are going to end up not, they’re going to own something that they didn’t think they were buying. So I have a feeling that there are pockets that people are going to get really crushed in. And I would think generally speaking, value doesn’t have the same stretch to it that sort of gives people that-

Tobias Carlisle: Not the same stretch but I do think that it is like, it’s upsetting to say it, but value is probably 50% rich to its long run mean or maybe not quite 50% it might be 30% now or something like that. Growth is multiples of where it should be, so growth can come back a lot. But it could easily be, it’s not going to be a scenario like 2000 where the market collapses. The dotcoms are down 80 or 90 or 95% and value’s up. I don’t think that’s going to happen. I don’t think it’s a 2007, 2009 type scenario either where value gets absolutely taken to the woodshed. I think it’s somewhere in the middle where value is probably going to do a little bit better than the market, but it’s still going to get hurt. Growth-

Jake Taylor: Is that a positive or negative expected outcome bet set today on the value basket?

Tobias Carlisle: Probably still it’s hard so…

Jake Taylor: Pick the timeframe too like…

Tobias Carlisle: I still think that there’s positive. I think the only place you can get positive absolute returns at the moment is in value. Even though I think in the interim with volatility in a crash, who knows what’s going to happen it’ll probably go down, but I think that everything else is priced for perfection and must sort of come back to a long run meanwhile whereas I think value probably won’t do that as much, but I still think realistically in a crash it’s going to go down. It’s just not going to go down as much as the market. I think the SAS names and a lot of those things are going to get absolutely cut to smithereens.

Jake Taylor: How about fundamental [inaudible 00:21:06] any reason to think that the kind of winner take all phenomenon that we’ve seen or at least that’s been, it seemed to have been the last 10 years that maybe that will, whether it’s antitrust comes up more or whether it’s competition comes, is there any reason to think that fundamentally speaking that a basket of the cheapest 10% might have better business results?

Jake Taylor: Maybe like a lot of weekends get forced out and maybe the more expensive stuff will have a reversion to the mean and business results as well?

Tobias Carlisle: Yeah, that’s a good question. I don’t know. I think there’s so many influencers that it’s impossible to see what the impact is going to be. Other more expensive names taking business away from the cheaper names or are they’re taking funding away from the cheap names. I don’t know.

Bill Brewster: Yeah, I don’t have a good sense either. I would say that in a lot of the stuff that I have seen the deep value pitch on, my biggest concern is agency cost and I brought this up last week, but I do think that, and [inaudible 00:22:13] or Dan had a good point on Tobi’s recent podcast with him where he said, he thought the agency costs were more aligned in some of these compounder type names relative to the deep value, sort of like liquidation slice at least, which I thought was interesting. I happen to agree with it, which is probably why I liked it.

Tobias Carlisle: In practical terms, what does that mean? Does it mean that they are paid to sort of keep on growing?

Bill Brewster: Well, if you’re long game stop right now, I’m pretty sure that CEO, part of his compensation is operating income growth. In my opinion, his entire compensation should be total shareholder return over the next three years. Because a lot of that is a cigar, butt that you’re hoping to get the money back from, I don’t actually want him re-investing if I’m buying today. I don’t want him to try to grow operating income, especially not on an absolute basis. I mean maybe if you want to go per share or per store or something like that, fine. But like I don’t want this guy trying to think about how to grow the company, but that’s me. Right? But I don’t think a lot of deep value guys that are like, oh, how are we going to turn GameStop into a compounder? Right? So get the guys incentives aligned with sort of your incentives.

Jake Taylor: Right, with the corporate strategy that you would like to see.

Bill Brewster: That’s right. Yeah.

Jake Taylor: Well I think it’s a tough question because there are so many variables, whether it’s technology, government interaction, investor sentiment, but I do think maybe a lot of times we don’t think enough about, if we’re going to win, why is it that we’re going to be winning? Is it fundamental based is it multiple based? And I think a lot of times maybe we don’t always strategize enough about those kinds of things.

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