The History and Rebirth of Growth Stocks Investing.

By BetterInvesting On April 5, 2012 ·

The editorial of the January issue of BetterInvesting Magazine features a letter from Ted Brooks of North Carolina, who provides a brief history of growth stock investing and the important role BetterInvesting co-founder George Nicholson played in popularizing this investing philosophy. In 1940, when Nicholson was just beginning his “bold experiment” of helping individual investors form investment clubs to pool resources and analyze stocks, growth stock investing was no longer in vogue, replaced by Benjamin Graham’s value approach in light of the 1929 crash.

January 2012 vol 61, No. 5 BetterInvesting Magazine

Reader’s Letter Provides Context for the SSG (The Stock Selection Guide)
In investing circles we tend to take some ideas for granted. In August 2005 we published an article discussing the history of growth stock investing. But a recent letter from reader Ted Brooks of North Carolina, spurred by our article on Better¬Investing’s 60th anniversary in the November issue, provides an excellent history lesson. Below is his letter, edited for Associated Press style and length.

When the Dow Jones industrial average was introduced on May 26, 1896, the world of common stocks was beginning to evolve into three distinct categories: railroads, public utilities and “industrials” (everything else). It is important to note that the “industrial” common stocks were not considered an appropriate investment vehicle for the prudent investor at that time; such investors would limit their holdings to bonds, preferred stock and perhaps an occasional railroad or public utility common stock. This attitude prevailed until around World War I.

While eschewing common stock for bonds and preferred stock sounds strange to our ears, it was not without justification. The DJIA started off as an arithmetic average of the stocks’ closing prices. In other words, the average price of stocks in the DJIA initially bounced between about $40 and $80 and did not break $100 until 1906. What few people realize is that prior to 1915, common stock prices were quoted as a percentage of par value (like bonds and preferreds), and par value was typically $100. If these sound like “junk bond” prices to you — you’re right!

During this period, value investing — focusing on dividend yields, low P/E and discount to book value — prevailed. These concepts carried over readily from the realm of bond and preferred stock analysis.

The man generally credited with introducing the concept of growth stock investing is Edgar Lawrence Smith. Smith’s book, Common Stocks as Long Term Investments, stated that common stocks had a history of outperforming bonds under all economic conditions, going back at least to the end of the Civil War. Now, in early 1925, both the book’s title and theme were outrageous statements that flew in the face of all prevailing logic — something present-day investors do not fully appreciate. Unfortunately, Smith’s book and ideas would see a meteoric rise and fall.In the first edition of Security Analysis (c. 1934), Benjamin Graham wrote a harsh criticism of Smith and his “growth stock” ¬disciples, and he urged investors to go back to the old rules of valuation that were discarded as obsolete during the bubble (leading to the 1929 crash).…

Against this backdrop, it is easier to understand George Nicholson’s courage in proposing the idea of investment clubs in 1940. Individual investors analyzing stocks? Buying growth stocks? George, where have you been for the last decade — living under a rock?

The BetterInvesting principles of demanding consistent growth in sales and earnings over a period of five-10 years, stable or increasing profit margins and closely watching valuations did not come out of thin air. They all came out of the hard lessons learned in the late 1920s when they were disregarded (as they were during the tech and dot-com bubble of the late 1990s). Nicholson recognized that focusing on these aspects — together with a graphical representation known as the SSG — allowed new investors to gain experience without wading into the trickier aspects of differentiating between a “value play” and a “value trap.” Nicholson’s “bold experiment” required a leader possessing both courage and clear thinking to make it reality in that historical context. I think all of these things combine to make Nicholson’s legacy what it is.

Neil Woodford: Why I Sold Tesco

Neil Woodford: Why I Sold Tesco

Barney Hatt

Published in Investing on 16 April 2012

The City super-investor explains why he no longer holds the supermarket.
Neil Woodford has revealed why he sold all of his shares inTesco (LSE: TSCO), despite admitting some reservations with the price trading at a "distressed" valuation.
Mr Woodford, who is possibly the City's most successful fund manager, owned about 167 million Tesco shares before the sale, which at the time represented about 3.4% of his market-thumping Invesco Perpetual Income and High Income funds.
Writing in the Telegraph, Mr Woodford said he placed too much confidence in the business's ability to cope with the economic headwinds:
"Until recently, I believed that food retailers such as Tesco would prove more resilient to the travails of the UK consumer than those that were more reliant on discretionary spending, but Tesco's Christmas trading update earlier this year changed my mind".
"However Tesco's problems are not just down to the difficult consumer environment and with the benefit of hindsight it is evident some of the company's investment decisions in recent years have not created the value that they should have -- or not yet at least."
In January's trading update, Tesco revealed a poor Christmas period and acknowledged rising costs, a move that sparked a 16% share-price fall.
The profit warning, reportedly Tesco's first for at least two decades, spooked the market and investors who backed the stock in the belief food retailers would be a defensive play in the volatile markets.
Mr Woodford explained: "Moves into non-food merchandise and building much bigger stores to cope with an expanding product range seem to have contributed to Tesco's current issues, lessening its defensive qualities."
"Investments overseas in areas such as the US, India and China, have not yet fulfilled their potential or enhanced shareholder returns."
He added another worrying aspect about holding the shares was rivals seizing upon the opportunity to regain market share as Tesco went through a period of transition:
"I have held Tesco shares in my funds for most of the past 20 years, during which time it has proved to be a very successful long-term investment."
"But I now find myself worrying more than ever about the risks -- both macro-economic and business specific risks -- that this investment now entails."
Mr Woodford believes his other holdings are better blue-chip bets, including the UK's fourth-largest supermarket, Wm Morrison (LSE: MRW), which has better growth opportunities in the UK and less exposure to non-food items.
The rest of the proceeds have been recycled into less cyclical businesses, which Mr Woodford believes will reduce the overall economic sensitivity of his Invesco portfolios. 
Indeed, he may have added to smaller holdings such as Smith & Nephew (LSE: SN) andSerco (LSE: SRP), or topped up on old favourites such as GlaxoSmithKline (LSE: GSK) andVodafone (LSE: VOD)
However, at least one master investor is sticking by Tesco.
While Mr Woodford was selling the retailer, Warren Buffett was buying and has now accumulated 508 million Tesco shares, which represent about 5% of the supermarket and roughly 1.5% of the common-stock portfolio within Mr Buffett's Berkshire Hathaway (NYSE: BRK-B.US) conglomerate. You may wish to read this special free report produced by the Fool, which explains why Warren Buffett still rates Tesco as his top UK blue chip!
On Wednesday, Tesco is expected to own up to further trading pressure when it reports its full-year results. Brokers reckon a 2% decline in first-quarter domestic sales may be revealed.

Equity Valuation Methods

Insightful discussion on valuation methods from a blog.

Posted: 22/Feb/2009 at 9:31pm
Originally posted by kanaka_basi

Originally posted by kannanravi1

Hi Srini,
Discount rate is typically what you think you should earn for taking the risk of owning stocks. Typically many fund managers add a risk premium over the treasury bond rates (treasury rates are thought to be zero risk). Eg: If treasury rates are 5%, some may think that 10% should be the risk adjusted rate. Buffett always goes by the treasury rates because he believes that his picks have zero risk! So, I guess one has to find his own comfortable rate.


PS: Any suggestions about how wrong/ right this method is??

Hi Kannan,

I saw this link which uses the discount rate as an opportunity cost of not investing in the least riskiest of asset classes (treasuries).

I thought that the expected confidence percentage (or probability that the earnings growth would be met) and the fact that my opportunity cost would be the treasury rate gave me the worst case scenario in trying to find the intrinsic value of the stock... and also the assumption that the compnay would grow only 5 years into the future...

Your opinions??

I too use the very same link for my DCF calcs!! Good to see I am not alone! I typically use a confidence margin ranging from 50% to 75% (for companies with extremely strong moat I use 75%). I use the opportunity cost as the treasury rate (I don't track the rates religiously but use 6 to 8%). I also predict growth only for 5 years and love to get stocks with no growth priced in. Even if I assume growth I try to keep at or below the GDP growth rates. Don't know if this gives me worst case scenarios but hopefully I am being conservative enough so that I have cushions for any mistakes in my valuation. Also personally I think that the best way to be conservative and risk-free is through buying companies with significant moats. This is a qualitative factor though unfortunately. Buffett once stated that he uses risk-free treasury rates because he believes that the companies he buys in are as stable and risk free as a treasury bill!!