Insights From O’Shaughnessy Asset Management’s Q4 2019 Letter

I want to dive into O’Shaughnessy Asset Management’s Q4 2019 Investor Letter. It’s one of my favorites so far this quarter, and you’ll see why.

If you’re pressed for time, here’s the cliff-notes:

    • Growth beat value, again
    • Growth generated returns via multiple expansion
    • Value generated returns via good business results or return of capital to shareholders
    • Growth vs. Value Expectations Gap Widest Since Dot-Com Bubble
    • How We Can Leverage Expectations

Let’s get to the charts …

Multiple Expansion Leads The Way

The above chart show’s OAM’s breakdown of style performance for the Russell-segmented stocks. What’s important to note about this graph is the returns from multiple expansion. Russell value stocks returned -1.22% via fundamental business growth and 3.58% via buybacks and dividends.

But the greatest return factor from all Russell segments? Multiple expansion.

And multiple expansion, my friends, is the reason value underperformed growth in 2019. OSAM notes that, “Multiple expansion added 43.7% to Growth index returns, but only 24% to Value.”

That’s why growth won. But it’s more than that. As we look towards 2020 one thing remains clear: embedded expectations for growth stocks are at their highest peak.

The Expectations Game

Take a look at the chart below from the letter. What do you notice?

According to OSAM research, the current long-term earnings growth expectations between value and growth is at its largest divergence since the 1999 dot-com bubble.

Embedded expectations is the key to understanding stock price movements. As the chart shows, expectations are now high for growth stocks and low for value stocks. In other words, growth stocks have high hurdle rates to clear over the next year. Value stocks? They’ll soar if they make it through the year.

But I hate this “value vs. growth” debate. Both are necessary for long-term absolute returns. In fact, if we look at stocks through the lens of expectations, we don’t need to segregate into “growth” or “value”.

Learning From The Best: Michael Mauboussin

Michael Mauboussin wrote the book on Expectations Investing. You can grab a copy here. I finished it in a couple of days. Here’s the big picture with expectations investing (from Mauboussin, emphasis mine):

“Expectations investing represents a fundamental shift from the way professional money managers and individual investors select stocks today. It recognizes that the key to achieving superior investment results is to begin by estimating the performance expectations embedded in the current stock price and then to correctly anticipate revisions in those expectations.”

Mauboussin doesn’t mention the words “growth” or “value”. And there’s a reason for that. Behind every stock price is an expectation of the future. That expectation is binary. It’s either better or worse than the company’s past performance. According to Mauboussin, if we want to generate outsized returns, we need to be on the right side of expectations.

How To Profit from Embedded Expectations

Now that we know the expectations gap, we can develop a simple, robust investment strategy. All we do is look in the low expectations pool. Find the lowest decile of expectation stocks, and project what Mr. Market thinks will happen over the next five years (or so).

This is easier said than done, of course. But it’s the mindset that matters. Changing your perception of stock prices from random gyrations to embedded expectations gives you a leg up on almost everyone.

Once you find a low-expectations stock, use a DCF to figure out what Mr. Market’s expecting the company to do over the next few years. Do those assumptions seem unreasonably pessimistic? How low is the company’s hurdle to beat Mr. Market’s expectations?

The lower the expected performance, the higher the expected return if we’re right.

Concluding Thoughts

O’Shaughnessy’s Q4 letter gave us the map to find low expectation stocks. They’re hiding in the value corners. Mauboussin on the other hand, gave us the tools to take advantage of O’Shaughnessy’s research insights (i.e., expectations investing).

This is our playbook for 2020, are you ready?

Have a great weekend!

That’s all I got for today. Shoot me an email if you come across something interesting this week at

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Brandon Beylo

Value Investor

Brandon has been a professional investor focusing on value for over 13 years, spending his time in small to micro-cap companies, spin-offs, SPACs, and deep value liquidation situations. Over time, he’s developed a deeper understanding for what deep-value investing actually means, and refined his philosophy to include any business trading at a wild discount to what he thinks its worth in 3-5 years.

Brandon has a tenacious passion for investing, broad-based learning, and business. He previously worked for several leading investment firms before joining the team at Macro Ops. He lives by the famous Munger mantra of trying to get a little smarter each day.


Investing & Personal Finance

AK is the founder of Macro Ops and the host of Fallible.

He started out in corporate economics for a Fortune 50 company before moving to a long/short equity investment firm.

With Macro Ops focused primarily on institutional clients, AK moved to servicing new investors just starting their journey. He takes the professional research and education produced at Macro Ops and breaks it down for beginners. The goal is to help clients find the best solution for their investing needs through effective education.

Tyler Kling

Volatility & Options Trader

Former trade desk manager at $100+ million family office where he oversaw multiple traders and helped develop cutting edge quantitative strategies in the derivatives market.

He worked as a consultant to the family office’s in-house fund of funds in the areas of portfolio manager evaluation and capital allocation.

Certified in Quantitative Finance from the Fitch Learning Center in London, England where he studied under famous quants such as Paul Wilmott.

Alex Barrow

Macro Trader

Founder and head macro trader at Macro Ops. Alex joined the US Marine Corps on his 18th birthday just one month after the 9/11 terrorist attacks. He subsequently spent a decade in the military. Serving in various capacities from scout sniper to interrogator and counterintelligence specialist. Following his military service, he worked as a contract intelligence professional for a number of US agencies (from the DIA to FBI) with a focus on counterintelligence and terrorist financing. He also spent time consulting for a tech company that specialized in building analytic software for finance and intelligence analysis.

After leaving the field of intelligence he went to work at a global macro hedge fund. He’s been professionally involved in markets since 2005, has consulted with a number of the leading names in the hedge fund space, and now manages his own family office while running Macro Ops. He’s published over 300 white papers on complex financial and macroeconomic topics, writes regularly about investment/market trends, and frequently speaks at conferences on trading and investing.

Macro Ops is a market research firm geared toward professional and experienced retail traders and investors. Macro Ops’ research has been featured in Forbes, Marketwatch, Business Insider, and Real Vision as well as a number of other leading publications.

You can find out more about Alex on his LinkedIn account here and also find him on Twitter where he frequently shares his market research.