- Growth projections look on shaky ground
- (And value has outperformed growth this year)
- Lots of idea-generating content...
It is easy to fall into the trap of thinking that rising company earnings will continue into a high-growth future without end. Despite the common boilerplate warning, psychologically it makes sense to connect past performance with future long-term expectations. This is reflected in valuation multiples, with stocks that have posted high growth in the recent past trading at a big premium to the wider market as expectations of further strong growth are factored into models.
But the rationality of this approach has been cast into doubt by research from Verdad Capital. Brian Chingono and Greg Obenshain analysed the entire US stock universe over the last 25 years to see if chunkier valuations for growth stocks are justified by consistent growth rates. They “found little to no evidence of persistence in earnings growth, beyond chance, over the long term”. Even those companies at the very top of the tree when it comes to past earnings growth are not exempt from this stark conclusion – their chance of posting persistent growth in earnings in the future, before tax and in cumulative cash profits, is essentially random.