HIGH FLYERS

"The only thing that higher multiples hedge is capital gains"  Arnold Van Den Berg

“If a stock is selling at a PE of 50, you have to be right about too many things to consider the principal secure: at a minimum you have to be right about both future earnings and future PE. With a PE of 12, several points below the historic average, you can get away with being right about either future earnings or future PE. With a stock selling below book, all you have to be right about is book value and the efficiency of your claim” Andy Redleaf

"Rarely can securities be valued correctly at over 15X earnings because rarely is there any clear prospect that a company's earnings will grow sufficiently in the future to make it worth that price.  We know that there are exceptions, buy they account for perhaps 1% of the cases.  So the odds are against you when you pay a very high multiple"  Roy Neuberger

"We had an aversion to paying high multiples even when we were sufficiently persuaded of the growth prospects. It seemed to us that unless one could realistically seek the expansion of a multiple as well as earnings growth in a long investment, it wasn't worth doing" Michael Steinhardt

“Equity prices typically imply not only current realities but a set of future events. High prices often imply that multiple significant uncertainties must be resolved for the price to be vindicated. High priced shares are like thoroughbred racehorses or over-engineered sedans: they may be beautiful performers under ideal conditions but they are very sensitive to circumstances – especially when they are running flat out” Andy Redleaf

“The function of margin of safety is, in essence, that of rendering unnecessary an accurate estimate of the future” Ben Graham

“The consequences of the stock market revaluing overpriced stocks is often what Graham and I call 'permanent capital loss'”  Christopher H Browne

"An investor can suffer permanent loss if he pays far too high a price for a stock" Ed Wachenheim

"If a high P/E is attached to earnings that are expected to grow rapidly, an earnings shortfall will cause the P/E ratio to be reduced, bringing about a double-barrelled price decline"  Howard Marks

“For us, the risk is lower when granular, and very likely high, expectations don’t exist” Jason Stankowski

“Once a fast grower disappoints, investors fall prey to cruel mathematics; a stock that’s down 50% must rise 100% before it returns to break-even point” Chris Davis

"High multiple stocks can become average multiple stocks at the drop of a penny in expected earnings.  You never know for sure if a company's going to do what you hope it will"  Ralph Wanger

"Each reversal is different, but extremes of disappointment can arise from extremes of stretching the parameters of valuation" Paul Singer

“Our business is one requiring patience. It has little do with a portfolio of high-flying glamour stocks and during periods of popularity for the latter, we may appear quite stodgy” Warren Buffett, Partnership Letter 1963

“Conservative forecasts can be more easily met or even exceeded. Investors are well advised to make only conservative projections and then invest only at a substantial discount from the valuations derived therefrom” Seth Klarman

“Any growth stock that sells for 40 times its earnings for the upcoming year is dangerously high-priced, and in most cases extravagant. As a rule of thumb, a stock should sell at or below its growth rate – that is, the rate at which it increases its earnings every year. Even the fastest gowing companies can rarely achieve more than a 25% growth rate, and a 40% growth rate is a rarity. Such frenetic progress cannot long be sustained, and companies that grow too fast tend to self destruct”. Peter Lynch

"Exceptional growth usually sows the seeds of its own decline" Ralph Wanger

“When a stock is relatively expensive, it is much harder to assess whether other people have simply done a better job than me at assessing the probabilities of successful outcomes. So you have to start with something that is demonstrably cheap because, first it is harder to get hurt if you fall out of the basement window, and second, it’s so difficult to assess whether other people have a more accurate handle on favourable characteristics than you do”. Paul Isaac

"Since analysts consistently overestimate growth rates, disasters happen all the time.  A 20% growth rate is a nice round number, easy for an analyst to pencil in, and that gets people excited.  It should, because 20% growth over time would be spectacular.  And at some point impossible to sustain.  Earnings disappointments aren't as rough on value stocks, because they're already in the basement" Ralph Wanger

"Fast growers can lead exciting lives, and then they burn out, just as humans can.  They can't maintain double-digit growth forever, and sooner or later they exhaust themselves and settle down into the comfortable single digits of sluggards and stalwarts.    I've already seen it happen in the carpet business and in plastics, calculators and disk drives, health maintenance and computers.  From Dow Chemical to Tampa Electric, the high flyers of one decade become the groundhogs of the next" Peter Lynch

“Companies that were nobody’s darlings when stock prices rose, he decides, were less likely to disappoint when the market fell. Why risk a pole vault when you could take the stairs” The Davis Dynasty

“It’s unrealistic to expect companies to grow at 15% for extended periods. Most great companies can’t do it. People who pay high prices for stocks based on high growth assumptions, are asking for trouble up the line” Chris Davis

"The more you grow, the harder it is to keep the percentage of growth constant or increasing because the base gets so big.  A company with $10m of sales and something unique can double its profits in a year, a company with $1b in sales is simply too big to double it's profits in a year, it takes time and energy and capital for each incremental increase, and none of these factors is infinite" Adam Smith, The Money Game 1968

“We’ve earned our money over time by significant outperformance in down markets, which is primarily a function of owning low-expectation stocks that are less susceptible to market corrections” Tom Shrager

“When you buy a battered stock in a solid company, you take some risk out of the purchase. Investors have low expectations” Chris Davis

“Proportionally, a contraction in PE from 35 to 29 looks just like a contraction from 12 to 10, in both cases around 17%. But here is the great difference. A contraction from 35 to 29 is very likely one step on a path that leads to 15. A contraction from 12 to 10 is also only one step on a path. And that path also very likely leads to 15”. Andy Redleaf

“Capitalism has a way of turning a good idea at a low price into a bad idea at a high price" Mason Hawkins

"Study after study has shown that when low P/E, low expectation stock reports disappointing news, the effect is usually minimal. Conversely, when a low expectation stock surprises the market with good news, the price can pop. The reverse is proven to happen with high expectation stocks. If they report a good quarter the stock doesn't necessarily jump. But bad news can crater a high-expectation stock" Christopher Browne

"We are wary of assets with sky-high valuations. We are not tempted to invest in them because it's going to end badly" Steve Feilmeier

High PE stocks are usually high expectation stocks.  Everything is going right, and investors are convinced their run of great returns will continue for many years.  As the legendary manager of the Vanguard Windsor Fund, John Neff, once said to me, 'Every trend goes on forever until it ends'.  Things change and trends do not go on forever”  Christopher H Browne

"If you remember nothing else about p/e ratios, remember to avoid stocks with excessively high ones. You'll save yourself a lot of grief and a lot of money if you do. With few exceptions, an extremely high p/e ratio is a handicap to a stock, in the same way that extra weight in the saddle is a handicap to a racehorse. A company with a high p/e must have incredible earnings growth to justify the high price that's been put on the stock.  In 1972, McDonald's was the same great company it had always been, but the stock was bid up to $75 a share, which gave it a p/e of 50. There was no way that Mc Donald's could live up to those expectations, and the stock price fell from $75 to $25, sending the p/e back to a more realistic 13.   There wasn't anything wrong with McDonald's.  It was simply overpriced at $75 in 1972"  Peter Lynch

“Here’s a simple principle about principal: principal is secured by price.  Assuming ahealthy business, the lower the PE the more secure the principal and the more bond-like the stock” Andrew Redleaf

"We confess to being investment acrophobics: We fear high places" Frank Martin

"We were orphans when everybody else was rushing after all of those so-called one-decision growth stocks, but we never did like the high fliers... I think that's one of the reasons why our record is so good." Richard Cunniff

"The market, like the Lord, helps those who help themselves.  But, unlike the Lord, the market does not forgive those who know not what they do.  For the investor, a too-high purchase price for the stock of an excellent company can undo the effects of a subsequent decade of favourable business developments" Warren Buffett

“The risk of loss stemming from equity’s place in the capital structure is exacerbated by paying a high price ” Seth Klarman

“Even the world’s greatest business is not a good investment, if the price is too high.”  Lou Simpson

"Stories sell stocks: the wonderful new product that will revolutionise everything, the monopoly that controls a product and sets prices, the politically connected and protected firm that gorges at the public trough, the fabulous mineral discovery, and so forth.  The careful investor, when he hears such tales, should ask a key question; At what price is the company a good buy? What price is too high?" Ed Thorp

"Examine the record of, say, the 200 highest earnings companies from 1970 or 1980 and tabulate how many have increased per-share earnings by 15% annually since those dates.  You will find only a handful have.  I would wager you a very significant sum that fewer than 10 of the 200 most profitable companies in 2000 will attain 15% annual growth in earnings per-share over the next 20 years" Warren Buffett 2000

"An article in Fortune magazine, covering 1960-80, 1970-90 and 1980-99, showed that out of 150 candidates among large companies, only four or five in each period were able to grow earnings per share at 15% per year on average.  Only one, Philip Morris grew rate at that rate for three periods. The key for Philip Morris wasn't a technological miracle or a fabulous new growth product; it was solid blocking and tackling in areas of stable consumer demand. So the latest "wonder company" with a unique product rarely possesses the secret of rapid growth forever. I think it's safer to expect a company's growth rate to regress toward the mean than it is to expect perpetual motion. " Howard Marks

“The notion that any business can grow at 20% per year forever is a fallacy. It doesn’t happen. In fact, if you go back in time. Let’s say I go back 50 years and I look at the best businesses of the era 50 years back, the bluest of blue chips which were the Amex of the time. Most of them are not around today. They don’t even exist. They have gone bankrupt or they have been acquired or gone.  You cannot get long, long runs on most of these businesses” Mohnish Pabrai

"A growth stocks usually becomes a value stock after excess capital, lured in by large profitability, brings about a decline in returns.  When this becomes extreme, as was the case during the technology bubble, the resultant bust can turn growth stocks into value stocks almost overnight" Marathon Asset Management

"I find the fact that trees cannot grow to the sky, because of the effects of gravity on tall slender structures, a useful metaphor, suggesting a limit to growth of most things, including corporations" Ralph Wanger

"Many people prefer to invest in a high-growth industry, where there's a lot of sound and fury. Not me. I prefer to invest in a low- growth industry like plastic knives and forks, but only if I can't find a no-growth industry like funerals. That's where the biggest winners are developed.   There's nothing thrilling about a thrilling high-growth industry, except watching the stocks go down. Carpets in the 1950s, electronics in the 1960s, computers in the 1980s, were all exciting high-growth industries, in which numerous major and minor companies unerringly failed to prosper for long" Peter Lynch

"As well as being difficult to manage and also attracting competition, high rates of growth are, in any case, unsustainable.  Eventually, even the most successful business models must face the law of large numbers - all markets are of finite size (even Coca-Cola's despite it's mid-90's slogan: "The closer we get to infinity, the better it looks!").   Empirically, very few companies can sustain anything like double-digit growth for a decade or more.  In some businesses, the risk is more pronounced when the product is relatively faddish (such as consumer electronics or fashion retailing).  Rapid growth can quickly turn into just as spectacular decline.   In such cases, the damage wrought by compounding negative numbers can be especially painful.  Momentum-orientated investors (of which there appear always to be more in practice than in theory) will happily pay any multiple for so long as growth is accelerating, but no multiple is cheap enough when it is falling"  Marathon Asset Management

"Over time, the growth rate of almost all technologies, products, and services slow because of saturation, obsolescence, or competition.  Many investors tend to project high growth rates far into the future without fully considering forces that eventually will lead to slower growth" Ed Wachenheim

"High growth and hot industries attract a very smart crowd that wants to get into the business. Entrepreneurs and venture capitalists stay awake nights trying to figure out how to get into the act as quickly as possible. If you have a can't-fail idea but no way of protecting it with a patent or a niche, as soon as you succeed, you'll be warding off the imitators. In business, imitation is the sincerest form of battery"  Peter Lynch

"Over the past half century, your odds of identifying a growth stock you can hold for 20 years are 4% and only 15% for 10 years.  Even for 3 years, they are just a little more than 50%" Barton Biggs

"When you begin to expect the growth of a component factor to forever outpace that of the aggregate, you get into certain mathematical problems" Warren Buffett

"I like to buy basic businesses not high flyers that sell at huge multiples." Walter Schloss

"In a finite world, high growth rates must self-destruct.  If the base from which the growth is taking place is tiny, this law may not operate for a time.  But when the base balloons, the party ends; a high growth rate eventually forges its own anchor" Warren Buffett

"Wall Street does not look kindly on fast growers that run out of stamina and turn into slow growers, and when that happens, the stocks are beaten down accordingly" Peter Lynch

"When a growth stock falls from grace, the landing is not just hard, it's usually a crash" Barton Biggs

"The typical growth stock starts out with high returns, rising turnover, and glorious prospects, only to stumble in later years.  The trouble is that profitable and growing businesses tend to attract lots of competition, especially when they operate in exciting areas such as technology.  Investors who buy growth at high starting valuations generally end up disappointed"  Marathon Asset Management

"High valuations entail high risks" Benjamin Graham

"A full price paid for admission carries a double penalty when the projected future growth rate in the company's earnings errs on the side of being excessively optimistic.  The injury of lower-than-expected earnings is usually compounded by the insult of a lower price-earnings ratio"  Frank Martin

"Some may say that earnings growing at 25% a year justify a 40 P/E, but its extremely difficult for a company to maintain that kind of growth, even for a short period of time, and no company can do it over a long period"  Ralph Wanger

"The rule is you cannot invest pretty much in any business on the planet that would make 20% a year on that business for the next 50 years.  Not happening.  Eventually what would happen is that business would be bigger than planet Earth.  Since planet Earth is not growing, we are stuck." Mohnish Pabrai

"We want to avoid situations where a valuation would wipe out the benefits we identify from misunderstanding. There are big sectors of the market – food companies, for example – where companies believed to be of high-quality, with low single-digit growth, are trading at 20-25x free cash flow. You could have a view they’ll cut costs, put another turn of debt on the balance sheet and buy back some stock to get 20-25% upside to earnings. But there’s 40% downside to the multiple. Unless the misunderstanding is very big, you’re just taking a bad risk." Adam Weiss

"I want to pay a multiple that does not expose me to a high risk of multiple compression"  Thomas Gayner

"There is nothing at all conservative, in my opinion, about speculating as to just how high a multiplier a greedy and capricious public will put on earnings"  Warren Buffett, Partnership Letter 1962

"Even if, by some magic, you knew the future growth rate of the little darling you just discovered, you really know how the market will that growth. Sometimes the market will pay twenty times earnings for a company growing at an annual compounded rate of 30 percent; sometimes it will pay sixty times earnings for the same company.  Sometimes the market goes on a growth binge, especially when bonds and the more traditional securities do not seem to offer intriguing alternatives. At other times the alternatives are enticing enough to draw away some of the money that goes into pursuing growth. It all depends on the psychological climate of the time. Obviously you are safer buying compounded earnings cheap than dear, because if you have a stock at eighteen or four- teen or eleven times earnings, and it takes a very damp climate indeed to suppress a record at those ratios. But since you will never be first on the scene, there will always be something to make your little darling seem expensive: Competition is lurking imminently, the stock has already run up, or the market is going to hell in a hand basket."  Adam Smith, The Money Game

"Once a fast grower gets too big, it faces the same dilemma as Gulliver and Lilliput.  There's simply no place for it to stretch out" Peter Lynch