Why still value now
Because conditions and history suggest it has further to run.
We continue to hear investors ask if it’s too late to get into value stocks. After all, they have significantly outperformed growth stocks over the past two quarters according to various large-cap and small-cap growth and value equity indexes, particularly in this year’s first three months. The concern is whether value’s run may be starting to peter out, a view prompted in part by growth’s re-emergence the past few weeks.
Let’s talk about that. If you had to list catalysts historically supportive of value stocks, it might consist of the following: An economy coming out of a recession. Interest rates rising from low levels. Monetary and fiscal stimulus at high levels. Inflation slowly starting to rise. Employment improving. Manufacturing, housing, consumer spending and confidence and other macro indicators also on the rise. Higher earnings with rising upward revisions. Inventories low just as demand is increasing. Does all this sound familiar? It should.
Now let’s consider one other factor: valuations. Would it have been better to get into value stocks toward the end of last year, before their big price rally and upward revisions to earnings? Absolutely. Yet even after its strong run through the first quarter, value’s performance as measured by the Russell 1000 Value (large cap) and Russell 2000 Value (small cap) Indexes is roughly flat relative to growth as measured by the Russell 1000 Growth and Russell 2000 Growth Indexes over the past 12 months. Over the past 3-year period, large-cap growth’s annualized returns are more than double that of large-cap value’s, and small-cap growth is nearly 6 percentage points above small-cap value over the same period. So, it’s sort of hard to argue that value is extended.
Two more arguments: history suggests rising rates tend to be more problematic for growth than value stocks, and that cyclical sectors of the economy where value lies (Energy, Financials, Industrials, Materials, Consumer Dscretionary) tend to perform their best in the first few years of recovery. From Wall Street to the Federal Reserve, expectations are 2021 GDP growth will be the strongest since at least 1984. Are there risks? Certainly. The potential for a new wave of Covid lockdowns, higher taxes and a Fed that initiates a rate-hiking cycle earlier than expected among them. But we think the strong conditions present today aren’t going to disappear anytime soon. So, why still value now? Because from market and macro perspectives, we believe it’s still a value story.