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Strategies & Market Trends : Buffettology -- Ignore unavailable to you. Want to Upgrade?

To: Jurgis Bekepuris who wrote (740)	12/23/1998 9:12:00 PM
From: Chuzzlewit	Read Replies (2) \| Respond to of 4691

Thank you, Jurgis, for your thoughtful reply. Re: I think that Buffett uses a blend of growth and value investing. Of course he does. If he didn't there would be considerable churning in his portfolio. After all, why hold on to a stock that is "properly" valued if you are a value investor? There was a recent article in the NY Times about a Rabbi and his wife who disposed of a large amount of money by gifts to various charities. It seems that in their younger days they entrusted a modest inheritance to the care of their life-long friend Warren Buffet. They never paid any attention to their nest egg, but it apparantly grew to awesome proportions. Buffet commented upon his approach in the Times article by saying find a good company with good management and go to sleep for twenty years. The difficulty with using Buffet's approach is that it is not geared to investing in hyper-growth. You simply can't use his valuation techniques for companies growing at 50% per annum. Try this example: take a time series growing at 50% per annum for 5 years, followed by indefinite growth at 10% per annum. 1, 1.5, 2.25, 3.375, 5.063, 7.59, 8.35, 9.19, 10.10 ... Assume each number represents disposable free cash flow. What is the value of the stream of future cash flows? The point that I have made is that using a static P/E (either forward or backward) is simply insufficient to capture the value inherent in the stream. This is precisely the kind of stream that growth investors seek out, and this is precisely the kind of company that value screens miss. Lets assume that the appropriate P/E in year 8 is 10x, giving the stock a value of $101. Applying that same 10x metric now would give a "value" of $10, and you would end up with an annual growth 33.5%. If you looked at the second year, you would end up with a stock value of 15, giving you a 50% return for one year. But investors, knowing that, would bid up the price of the stock in anticipation of the growth. And it is precisely the calculus of anticipation that is missing from backward P/Es. TTFN, CTC