Getting Rich (3) Comparison of two investment strategies: trend investing and value investing, which investment strategy has higher returns?
- LI Xiaolai
- Aug 23
- 8 min read
Author: Xiaolai Li, Serial editor: Mr. Y
Introduction
Trend investing is, in essence, "angel investing" for the public financial trading markets.
Looking back at history, angel investing has created countless wealth legends. In 1903, Henry Ford founded the Ford Motor Company with $40,000 from five angel investors. In 1977, an angel investor put $91,000 into Apple Inc.; today, this investment has returned over 1,692 times its initial value, reaching 154 million USD. At their core, these early investments were precise bets on the major trends of an era.
This investment style not only created miracles; its returns were even more stable than we might think. Research from as early as 1999 pointed out that angel investments in early-stage companies had an even more stable rate of return than venture capital (VC) funds, which tended to focus on more mature businesses.
The logic of trend investing and angel investing is identical: both are early-stage bets on future trends. The main difference lies in how they were executed. Angel investing primarily involves wealthy individuals directly purchasing shares in private, unlisted startups. In contrast, the trend investment we are discussing refers more to investors buying trend-representing, tradable assets (such as stocks, cryptocurrencies, etc.) in public financial trading markets (such as the stock market and the cryptocurrency market).
Value investing is another major school of investing style, standing alongside trend investing. Simply put, it involves using complex financial analysis to find and buy stocks of companies whose prices are below their "intrinsic value."
To do this, an investor needs to use a range of sophisticated financial tools (like discounted cash flow models, P/B ratios, etc.) to conduct deep financial analysis.
However, many retail investors, might have misunderstandings about the value investing. Some people, including me, mistakenly thought that "value investing" was the synonym of "long-term investing”, thinking that if we invested in an asset with long-term value, we were practicing value investing.
It wasn't until I read an article by Xiaolai Li that I had an epiphany: value investing and long-term investing are actually two different concepts.
In fact, true value investing is extremely unfriendly to the average person, for two reasons:
High threshold: Estimation of a company's intrinsic value requires professional financial analysis skills that most non-professional investors simply do not have.
Narrow scope of application: This method works well for mature, stable industries but often fails when applied to rapidly developing new fields, such as blockchain.
Therefore, before blindly calling ourselves "value investors", perhaps we should first consider whether we can clear the above-mentioned two hurdles.
The world of finance is constantly changing, with new concepts emerging and intertwining in confusing ways. This can be seen from the public's misunderstanding of the concept of "value investing".
For example, a concept called "discounting future value" has appeared several years ago, which attempts to calculate a company's intrinsic value today by discounting its potential future cashflows.
This forward-looking approach has, in a way, already blurred the lines between value investing and trend investing.
Instead of getting entangled in these complex concepts, Xiaolai Li offered a simpler but effective advice: Extend your investment perspective to two major cycles and focus on the value trends that can grow continuously in long-term. This is far more reliable than constantly looking for so-called "value valleys".
This wasn’t just one person's opinion: it's a truth repeatedly verified by practice. Warren Buffett's investment career was a powerful testament to this: compared to short-term value discovery, long-term investments have created much higher returns.
Therefore, for every investor, the best investment strategy can be summarized in one sentence: invest long-term, that only choose the investment targets that you believe can continue to grow in the long term.
Main texts
by Xiaolai Li, rewritten in English by John Gordon & Xiaolai Li ©2019
When people talk about value investing and trend investing, they often mistakenly see them
as opposites. In fact, they are only opposites when viewed from a short-term perspective.
For regular investors, however, who always view things from a long-term perspective, value investing and trend investing are not opposites. In the long term, which is to say after two full market cycles, value investments will show a trend of compound growth, and investments that will trend upward over the long term will also certainly be valuable. A simple change in perspective can cause the relationship between two terms to be completely opposite!
I often say the following:
Don't have blind faith in value investing.
I also often say this:
Don't have a one-sided understanding of value investing.
Why do I feel that I always have to remind people of this? Because I often see this situation:
Most people are clearly (short-term) trend investors, because the bull market was obviously the reason they entered the market! But as soon as they get trapped by falling prices in a bear market, they suddenly become value investors!
So, in most situations, people who mention the concept of value investing to you actually only became value investors after getting trapped in the market. I can also guarantee to you that, once the market picks up, they will suddenly turn into what they would call trend investors.
This is truly a fascinating phenomenon. They completely fail to understand that the huge loss and the awkward situation that they are facing are entirely due to having a different perspective. Even sadder is that these people, who use the short term as the basis for their decisions, also don't know that they have no way of understanding the free and correct advice on the market that is available from those most successful investors who can be blindly followed.
And it's all due to a different perspective! Because those "truly successful investors who have shown excellent returns over the long term" all look at things from a long-term perspective.
To take it a step further, trend investing is better than value investing when viewed from a long-term perspective.
Even though Benjamin Graham's value investing thesis is obviously correct, few people notice that it has a hidden limitation:
According to his thesis, you must always pay attention to the current price.
Behind this hidden limitation is an even more deeply hidden factor:
Even though it is possible to determine whether the current price is lower than the current value, it's nearly impossible to determine the future price and value, especially the price and value after two full cycles.
It's an almost impossible feat to both pay attention to the details of the present and seriously consider everything that could happen in the distant future. This is the key reason why truly successful value investors are so rare. A good analogy is the saying that if you wear one watch you'll basically know what time it is, even if it's a few minutes slow or a few minutes fast, but if you wear two watches you'll be very mixed up.
According to value investing theory, you must work hard to find an investment with a price below its actual value. But when will you sell it? According to the theory, once its price exceeds its actual value you should sell it, whether it's been ten days or ten years since you purchased it.
Following this theory, even Warren Buffett will make mistakes. His most famous mistake was his investment in Disney - he actually made two mistakes trading Disney stock. In 1966, 36-year-old Buffett met Disney founder Walt Disney in California. Following the meeting, Buffett bought 5% of Disney (NYSE:DIS) for $4 million at a price of $0.31 per share.
In his 1995 investor letter, Buffett relayed this story. He bought Disney stock in 1966 at $0.31 per share, and then sold it a year later for $0.48 per share, making a profit of 50%. Over the next thirty years, Buffett could only watch as Disney stock rose, reaching $13 in 1995.
But the story was not over. In 1995, Buffett helped Disney purchase Capital Cities/ABC, of which he was a shareholder, and once again ended up with a 3.6% stake in Disney! He sold his shares within three years, though, and missed out as Disney's stock continued to rise up to $129 in October of 2019. Business Insider calculated that, had Buffett continued to hold 8.3% of Disney through 2019, his shares would have been worth $21 billion, and he would have received $1.5 billion in dividends.
Of course, this story doesn't mean that Buffett failed in his investment, and he certainly didn't actually "lose" $22.5 billion. After all, he made a profit on Disney, and he didn't just spend the money after selling - he kept investing according to his strategy, and he has a 55-year track record of around 25% returns. Over the past 53 years, not accounting for dividends, Disney has returned just over 19% compounded annually. If dividends are taken in to account, Buffett would have been better off holding Disney, but he certainly didn't "lose" as much trading Disney as some people think.
What this story really tells us is that, over at least two full cycles, value investing, which requires constant focus on price, is not necessarily better than long-term trend investing.
Therefore, regular investors focus more on the overall trend. Even though we are also value investors, the difference is that we view things from a long-term perspective. While it can make people uncomfortable, the logic is sound:
If the correct trend is chosen, then while the difference between price and value is not unimportant, it's not as important as people think.
With a focus on long-term trends, and the requirement of only focusing on the long term, regular investment targets must be chosen in a different way. Compared to many other investors, regular investors have an extra screening criterion:
Sustained growth over the long term.
Don't discount the importance of "one extra criterion".
Amazon (NASDAQ: AMZN) currently has the highest market cap of any e-commerce company in the world. According to Morningstar's calculations, it has provided investors with a compound yearly return of 40.42% over the past five years. Over the past 15 years, the compound yearly return has been 28.51%.
Have you thought about why Amazon started by selling books, even though there were so many other potential items to sell? Aside from the fact that the book market is a large market, and the fact that people need and want to buy books frequently, there is one extra screening criterion that the book market fulfills: once you have sold a book, you very rarely need to provide customer service. Just this one extra criterion eliminated 99.99% of the other choices!
Regular investors can only choose investments that grow sustainably over the long term (of course, the more growth the better!). Just this one seemingly simple criterion eliminates 99.99% of the options, because, strictly speaking, there is no one individual investment that we can be sure will meet this criterion, no matter how good it looks now. This is because companies are just like people:
In the long run, we are all dead. - John Maynard Keynes
So what should a regular investor do?
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