Harry Browne PP & Growth Stocks Revisited

[johnnywitt]

Ok, so I have now read every book that Harry wrote on investing (except for "Investment Rule #1" because I can't afford $400 a copy) & I have listened to all his Radio Shows on YT.
Many on this site expressed the opinion that Harry didn't really understand, or intend Folks to invest in Growth Funds and that since Harry is no longer here to ask and that his last investing book "Fail-Safe Investing" did seem to recommend an S&P 500 Index Fund that a Growth Fund isn't the way to go with the PP.
Well, in every book starting with "New Profits from the Monetary Crises" in 1978 he did, in fact, recommend Growth Funds and I believe he only changed this in his last book to simplify the implementation of his portfolio and also back then Passive Growth Funds and much less ETF's weren't as available and in the case of ETF's nonexistent.
To prove my point, grab your iPhone and go to the Stock App and plug in VTI & VUG. Now, go all the way back to the low in 2008 until now and see what each ETF did and you will see that VUG far and away blew the doors off of the S&P and the Total Stock Market. You will have to run the pure S&P 500 as VOO didn't quite go back to the 2008 low. Lastly, I know that some tout the Small Cap Value, but you can run VBR as well and see that didn't nearly catch up with Growth. I think Harry had it right. In times of prosperity Growth should flat out outperform all other equity classes in most circumstances from a historical perspective. YMMV

[Smith1776]

This is a touchy topic, and you may very well be right.

However, I am steadfast in believing that Browne's definition of "growth" stocks is different from the academic and industry wide definition. Browne said he was recommending stocks that moved more than the market. That sounds like a reference to high beta securities. He also said that you wanted stocks that benefit more than the average stock when the economy is doing well. Those are generally small cap value stocks. Value companies are typically stocks that possess distress risk and benefit disproportionately when the economy turns up. They also have lots of irreversible capital which means that they can go from barely profitable to very profitable quite quickly. (They have high operating leverage in addition to financial leverage.) The forgoing argument is doubly true for small stocks.

The following is a video of Eugene Fama attesting to what I just mentioned: https://youtu.be/HIKO-t4vU6Q

The academic definition of growth generally refers to stocks with high book-to-market ratios and are companies that are already highly profitable and growing. Again, you may be right that these stocks are the way to go, but I do believe these are the opposite of what Browne was referring to. Growth stocks (again, using the academic definition), tend to be companies that don't benefit disproportionately when the economy turns up because they're usually already profitable to begin with.

[johnnywitt]

With regard to Growth Stocks it is essentially a volatility harvesting play. Look at TSLA for instance. If you were able to rebalance and lock in even some of that insane volatility you will essentially lever the low stock allocation of the PP.
HB wasn't my only "Mentor". I like to listen to the sage advice of Charlie Munger who wrote a great book called "Poor Charlie's Almanac" a play on old Ben Franklin's work. One of the biggest take aways from that book is how Munger "always inverts". So, take the strict "canonical" interpretation of HB PP Theory of "prosperity" and ask yourself what sectors of the stock market have the worst returns during a bull market, or periods of "prosperity" and I'm pretty sure it isn't Growth.

[pmward]

If I were instituting a PP that I would buy and rebalance for the rest of my life I think I would do something like a 50/50 split between MTUM and SCV, even though I have a strong distaste for SCV at the moment.

Why would I do this, since momentum and value tend to be negatively correlated? Well for the reason that they are negatively correlated. Momentum really is a better and more functional definition of "growth". Though VUG or QQQ could also be used instead of MTUM as the correlation between them are close enough. But what I've come to realize is in "prosperity" there are two separate potential environments. You can have prosperity in both a high and low yield environment. During a period of low yields and/or falling yield curve momentum, large cap, and growth are going to out perform small and value. Periods of high yields and/or increasing yield curve will tend to favor small cap and value over momentum, growth, and large cap. This can be seen even just within the last year. When the yield curve was decreasing tech was super out performing. But recently, since the curve has been steepening value and small cap have been getting a bid. So I think prosperity can go either way, and because of that for a buy & rebalance over a lifetime type of portfolio I think a Smith-esque split of large cap momentum and SCV makes sense, even though I still have a hard time believing SCV will get up off the mat in any meaningful and sustained way anytime in the near future. But whenever the bond bears are finally right and bonds go into a secular bear market, I think we will see SCV become a legitimate asset once again. Since these cycles happen over the course of a lifetime, I think weighting to both for a buy and rebalance portfolio makes sense from the context of a super long term make no speculation HB kind of mindset.

[Smith1776]

I am very content with having a pure momentum fund as part of my equity allocation. You guys bring up an interesting thread of thought regarding how Browne's "growth" could perhaps be congruent with modern momentum. The Vanguard momentum fund I'm invested in has all the high fliers like Tesla as johnnywitt mentioned. Other top holdings include Apple, Amazon, AMD, NVIDIA, and the usual suspects.

Regardless of what we all want to call growth or value or whatever it may be, the higher order bit for me is still diversification. Not just the number of stocks, but factor diversification is important as well. I've got beta, value, size, momentum, betting against beta, quality, and the kitchen sink in my equity allocation.

I am starting to lean away from the Swedroe way of thinking about equity allocation and have shifted ever so slightly towards Paul Merriman's camp.

[pmward]

I am very content with having a pure momentum fund as part of my equity allocation. You guys bring up an interesting thread of thought regarding how Browne's "growth" could perhaps be congruent with modern momentum. The Vanguard momentum fund I'm invested in has all the high fliers like Tesla as johnnywitt mentioned. Other top holdings include Apple, Amazon, AMD, NVIDIA, and the usual suspects.

Regardless of what we all want to call growth or value or whatever it may be, the higher order bit for me is still diversification. Not just the number of stocks, but factor diversification is important as well. I've got beta, value, size, momentum, betting against beta, quality, and the kitchen sink in my equity allocation.

I am starting to lean away from the Swedroe way of thinking about equity allocation and have shifted ever so slightly towards Paul Merriman's camp.

Yeah, the Fama/French thesis has been disproven in my opinion. It's very hard to argue for buy & hold SCV allocations. Momentum is a different beast altogether, since it is an active strategy. Momentum is an ever changing mix of all the other factors. If value starts to out perform growth, what happens? Momentum tilts to value (or insert whatever factor has "momentum"). Momentum is looked at as a tech fund these days, because since MTUM's inception it's been the tech names that have had the most momentum. But if tech loses quantitative momentum it will be excluded from MTUM in favor of whatever does have momentum. Now to be fair the MTUM ETF is a large cap fund so it will never tilt towards small cap, so I can see a mix of SCV and MTUM to balance that out and help hedge a rising interest rate environment. There are also some active relative momentum TAA strategies that can be done between the different factor ETF's that out perform holding any combination of those factor ETF's buy and hold, but I won't elaborate on that in the PP forum since that is an active strategy. Regardless, any way you cut the cake momentum is the strongest and most consistent factor of the bunch. Back when Harry recommended "growth" funds the growth index funds didn't exist. They were active funds that were actually more similar to a momentum fund that bought in favor stocks and sold out of favor stocks than a "growth" index that just included the top 50% most expensive stocks.

[Smith1776]

Yeah, the Fama/French thesis has been disproven in my opinion. It's very hard to argue for buy & hold SCV allocations. Momentum is a different beast altogether, since it is an active strategy. Momentum is an ever changing mix of all the other factors. If value starts to out perform growth, what happens? Momentum tilts to value (or insert whatever factor has "momentum"). Momentum is looked at as a tech fund these days, because since MTUM's inception it's been the tech names that have had the most momentum. But if tech loses quantitative momentum it will be excluded from MTUM in favor of whatever does have momentum. Now to be fair the MTUM ETF is a large cap fund so it will never tilt towards small cap, so I can see a mix of SCV and MTUM to balance that out and help hedge a rising interest rate environment. There are also some active relative momentum TAA strategies that can be done between the different factor ETF's that out perform holding any combination of those factor ETF's buy and hold, but I won't elaborate on that in the PP forum since that is an active strategy. Regardless, any way you cut the cake momentum is the strongest and most consistent factor of the bunch. Back when Harry recommended "growth" funds the growth index funds didn't exist. They were active funds that were actually more similar to a momentum fund that bought in favor stocks and sold out of favor stocks than a "growth" index that just included the top 50% most expensive stocks.

I am cognizant of the mounting evidence against the original Fama/French three factor work, but am not quite willing to say the premiums have disappeared just yet. I am willing to withhold judgment until more data comes in. If memory serves, I believe Fama and French's latest paper on the value premium suggests that the poor results of value through the out of sample period are still within the bounds of what would be expected by chance.

Be that as it may, I am glad I have much more than just SCV in my equity.

[Smith1776]

Adding another angle on this discussion. Here's the list of top stocks in the Aggressive Growth Portfolio offered by the PP family of funds.

stocks.png (232.11 KiB) Viewed 2151 times

[pmward]

I am cognizant of the mounting evidence against the original Fama/French three factor work, but am not quite willing to say the premiums have disappeared just yet. I am willing to withhold judgment until more data comes in. If memory serves, I believe Fama and French's latest paper on the value premium suggests that the poor results of value through the out of sample period are still within the bounds of what would be expected by chance.

Be that as it may, I am glad I have much more than just SCV in my equity.

It's not chance, it's market environment. If they actually started to look for what the variables are that favor SCV they would realize there is a time to hold them and a time to fold them. As such, buy and hold is kind of silly. They can make all the excuses in the world to defend their lives work, but it doesn't change the fact that every person that has ever listened to their advice has lost, and will continue to lose as long as interest rates stay super low. Small cap value is basically a small cap financials sector play. When you look at it this way, it's quite obvious exactly why it's underperformed for the last 20 years, and the last 12 years especially. You can also see the years SCV showed life and had some mean reversion were the very years interest rates were rising. Mind you, in a PP this can help hedge a rising interest rate environment so there is some value there, but who knows when we actually get there? So yeah it's best for factor investors to have diversification (or use an active TAA momentum strategy between them) to ensure they don't continue to lose if we follow Japan into a low interest rates forever environment. And for someone interested in factors, momentum is the most powerful, consistent, and sustainable of the bunch. Interestingly enough, low interest rate environments also tend to favor mean reversion over trend, so the fact that MTUM still outperforms SPY even in an environment that is exhibiting the lowest trend and highest mean reversion in history shows just how robust and anti-fragile it is. How much more does momentum out perform when we go back into an environment where trend is strong? SCV in comparison is the very definition of fragile, it only works on those super rare occasions when the stars perfectly align. Yes, when those stars align it's like catching lightening in a bottle, but this is such an incredibly rare and short lived occurrence that I'm not sure it's worth the cost of carry through years and years of underperformance.

[Smith1776]

It's not chance, it's market environment. If they actually started to look for what the variables are that favor SCV they would realize there is a time to hold them and a time to fold them. As such, buy and hold is kind of silly. They can make all the excuses in the world to defend their lives work, but it doesn't change the fact that every person that has ever listened to their advice has lost, and will continue to lose as long as interest rates stay super low. Small cap value is basically a small cap financials sector play. When you look at it this way, it's quite obvious exactly why it's underperformed for the last 20 years, and the last 12 years especially. You can also see the years SCV showed life and had some mean reversion were the very years interest rates were rising. Mind you, in a PP this can help hedge a rising interest rate environment so there is some value there, but who knows when we actually get there? So yeah it's best for factor investors to have diversification (or use an active TAA momentum strategy between them) to ensure they don't continue to lose if we follow Japan into a low interest rates forever environment. And for someone interested in factors, momentum is the most powerful, consistent, and sustainable of the bunch. Interestingly enough, low interest rate environments also tend to favor mean reversion over trend, so the fact that MTUM still outperforms SPY even in an environment that is exhibiting the lowest trend and highest mean reversion in history shows just how robust and anti-fragile it is. How much more does momentum out perform when we go back into an environment where trend is strong? SCV in comparison is the very definition of fragile, it only works on those super rare occasions when the stars perfectly align. Yes, when those stars align it's like catching lightening in a bottle, but this is such an incredibly rare and short lived occurrence that I'm not sure it's worth the cost of carry through years and years of underperformance.

I managed to find the Fama/French paper that updates their analysis and reread it this morning. Their reasoning is robust and the statistical analysis they did is very rigorous by my judgment.

https://poseidon01.ssrn.com/delivery.ph ... 98&EXT=pdf

The high volatility of monthly value premiums clouds inferences about whether the declines in average premiums reflect changes in expected premiums. Comparing the first and second half-period averages, we don’t come close to rejecting the hypothesis that out-of sample expected premiums are the same as in-sample expected premiums.

There simply isn't enough data in the out of sample period since publication to conclude with statistical confidence that the value premium has disappeared. We can debate narratives of course, but data is what's really holy in financial economics. The most reasonable position to hold is that we simply need more years to pass so that we can gather more years of return data.

Regarding the SCV premium being overweight financials (value in general is overweight financials), yes that's true, but industry neutral value frameworks do exist and they are quite easy to create.

[pmward]

We can debate narratives of course, but data is what's really holy in financial economics. The most reasonable position to hold is that we simply need more years to pass so that we can gather more years of return data.

If we need more years to pass, and need more data, then why would our assumption be that it is truth? Shouldn't that bias be that it is not truth? Especially in light of the trends in the last 20 years? Especially since the unwavering trend to passive and the potential low interest rate forever environment cast reasonable doubt going forward? I think their inherent weakness is they are trying to find an absolute truth in markets which are dynamic and tend to show mean reverting characteristics. Looking for the ultimate buy and hold hack is akin to the quest for the holy grail. Just when you think you've found it... boom mean reversion sets in and takes all those gains back. The one thing that separates momentum from these other factors, is that it will sell the mean reversion instead of hold through it. It's this active piece that is what makes it more robust and less fragile. It will still go through periods of over and underperformance, momentum has an inherent lag in that it will always buy after the initial big move and always sell after the peak. But it at least won't hold anything through a full multi-year (or multi-decade) secular bear trend, and it will still take advantage of 80% of any big secular multi-year (or multi-decade) bull trends that will come to pass going forward.

Regarding the SCV premium being overweight financials (value in general is overweight financials), yes that's true, but industry neutral value frameworks do exist and they are quite easy to create.

Now I want to be clear on one thing. I do think that there are areas of the market that an SCV premium can be realized. However, it's not in the SCV index products. If one is willing to look in the dark areas of the market (microcaps, OTC, and other areas that are under represented in the index funds) and actively pick stocks there is potential for out performance. But there is also liquidity risk in these areas, and it is very difficult, very time consuming, and not an easy low cost buy and hold decision. So, maybe this gives Fama/French some validation in theory, but it still invalidates the popular prescription that has been assumed and passed on about their theory. So I guess my argument is more in the context of pushing back against SCV index funds, or active funds that are basically value index funds in disguise. So your market neutral strategy might be a better fit, but I have not seen any data on this as of yet so I can't really pass judgment.