Warren Buffett’s timeless wisdom—“It’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price”—has long been the North Star for value investors. But what if this legendary mantra is due for a rethink? A recent deep dive by Macquarie Equity Research challenges this cornerstone of investing philosophy, revealing insights that could reshape how advisors and investors approach stock selection in today’s markets.
The Macquarie Study: Turning Buffett’s Wisdom on Its Head
Macquarie’s team developed a rigorous quantitative model that scores companies based on fundamentals—think earnings quality, balance sheet strength, and cash flow consistency—to determine how “wonderful” a company truly is. Layered atop this is a valuation framework that flags whether a stock is cheap or expensive relative to its intrinsic worth.
They then sliced “fundamentally cheap stocks” into three buckets:
- Wonderful companies at a fair price
- Fair companies at a wonderful price
- A mixed group
Over 30 years and across 10 global markets with monthly rebalancing, the results were striking: fair companies bought at wonderful prices outperformed wonderful companies bought at fair prices. This flips Buffett’s preference on its head and suggests that valuation trumps quality when it comes to long-term returns.
Macquarie’s takeaway? Valuation-driven investing remains a powerful strategy, reinforcing the idea that hunting for bargains—regardless of company quality—can yield superior returns.
Why This Matters Now More Than Ever
In today’s market environment, where high-quality stocks often trade at premium valuations, Macquarie’s findings are a wake-up call. The relentless chase for “wonderful” companies at any price risks overpaying and eroding future returns. Meanwhile, undervalued “fair” companies may offer hidden gems with outsized upside potential.
Consider the recent example of the energy sector. Despite being labeled “fair” companies due to cyclical headwinds, several oil and gas firms have delivered strong returns after market corrections, driven by improving fundamentals and attractive valuations. This is a real-world demonstration of Macquarie’s thesis playing out beyond the academic model.
The Buffett Context: Philosophy vs. Quantitative Testing
It’s important to note that Buffett’s advice is a qualitative philosophy centered on margin of safety and durable compounding, not a rigid quantitative rule. His longtime partner, Charlie Munger, famously nudged Buffett away from “cigar-butt” investing—buying cheap but mediocre companies with limited upside—toward owning fewer, higher-quality businesses at reasonable prices.
Macquarie’s model, while robust, doesn’t fully capture intangible assets like brand strength, management quality, or the economic moats that Buffett prizes. These factors can protect earnings and reduce risk over time, which pure quantitative screens might overlook.
What Should Investors and Advisors Do Differently?
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Rebalance Focus Toward Valuation: While quality remains important, investors should weigh valuation more heavily. Look for companies that might not be “wonderful” by traditional metrics but are trading at compelling discounts.
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Diversify Across Quality Tiers: Blend portfolios with both high-quality companies and undervalued “fair” companies. This mix can harness the benefits of durable compounding and valuation upside.
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Use Dynamic Screening Tools: Incorporate quantitative models like Macquarie’s to identify undervalued opportunities globally. This can uncover potential winners outside the usual blue-chip universe.
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Stay Mindful of Intangibles: Don’t abandon qualitative analysis. Intangible assets and management quality remain critical for long-term resilience, especially in volatile markets.
Looking Ahead: A New Era for Value Investing?
Macquarie’s findings could signal a broader shift in the value investing paradigm. As markets evolve with technological disruption and changing consumer preferences, the “wonderful company at a fair price” may become harder to find. Instead, disciplined valuation-based investing in “fair” companies might offer a more fertile ground for alpha generation.
According to a 2023 report by Morningstar, value stocks trading at deep discounts relative to their historical averages have outperformed growth stocks by an average of 4% annually over the past five years—underscoring the resurgence of valuation-focused strategies.
Final Thought
Buffett’s wisdom still holds immense value, but Macquarie’s research reminds us that no investment philosophy is set in stone. For extreme investors looking to stay ahead, blending timeless principles with cutting-edge quantitative insights will be key to navigating the complexities of modern markets.
Investors and advisors who adapt by embracing valuation without losing sight of quality—and who remain open to evolving strategies—will be best positioned to capitalize on the next wave of market opportunities. After all, in investing, as in life, the only constant is change.
Source: Buying great companies at fair price is less profitable