Quick, name a “one decision stock” – a business team so good that valuation is a secondary consideration. For those investors foolish enough to believe in such things, Google and Apple – market darlings for the better part of a decade – might well fit the bill.
But go back 40 years and Xerox and Kodak, two stocks that tumbled last week and have had awful decades, were similar bellwethers that fund managers happily owned at nearly any price. Leading members of a group dubbed the “Nifty Fifty”, they traded at an average of 42 times price-to-earnings at their 1972 peak, pricier than today’s tech leaders but a similar multiple of revenue.
A decade ago , the finance professor Jeremy Siegel revisited the Nifty Fifty and calculated what a reasonable p/e ratio would have been with 29 years of perfect foresight. Xerox would have been fairly valued at 9 times and Kodak at 11 times. Polaroid, the most richly-valued of the group at 95 times in 1972, has since disappeared altogether.
Not all did badly. McDonalds and Walt Disney had high starting valuations that eventually were justified. Somewhat cheaper Johnson & Johnson, Pfizer and Coca-Cola, did well too. Technology stocks did worst, but the best predictor of future return was not industry but starting valuation. The cheapest five stocks traded at 26 times earnings while the most expensive group sold for 63 times. Extrapolating returns calculated by Siegel, the cheaper group had a return 2.3 times higher.
Duds such as Kodak or Polaroid notwithstanding, fund managers in 1972 did a decent job of picking lasting franchises but not good investments. A portfolio of companies chosen purely on the basis of a low p/e would have done better. Followers of Apple or Google might still ponder the words of Warren Buffett, who feasted on fallen members of the Nifty Fifty after the group dropped by 70 per cent in the subsequent bear market. “Price is what you pay. Value is what you get.”
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