Fund managers who bought quality/growth stocks over the last couple of years have seen their portfolios perform incredibly well, partly as a result of alpha, but largely as a result of beta, as quality/growth stocks have had a massive rally versus the so-called value sectors of the market. The graph below highlights that a growth ETF would have outperformed the MSCI by 5% over the last seven years, and a value ETF would have underperformed by 5%.
But in the last couple of months, this story had begun to evolve, with the rhetoric changing from monetary policy to that of Keynesian approach, as more and more politicians wake up the fact they won’t stay in power if growth in GDP is not trickled down to all, and not merely the top 1%.
Interestingly, the shift we have seen from growth to value stocks started the US Presidential election, but one cannot deny that Trump’s win has massively catapulted value stocks back into the limelight.
After years of underperformance, we are starting to see this resurgence of interest in the value sector of the market, thanks in part to two factors, namely the expectation of higher inflation and the very real possibility of higher interest rates. Growth stocks suffer in a rising rate environment, as growth in the future is discounted by a higher interest rate and this leads to lower valuations for their future returns.
Quality stocks, especially those with repeatable earning and strong brands have seen their share prices do very well in the prevailing low growth environment, but if politicians globally plan to turn on the fiscal taps, investors are going to be reluctant to pay up for safe growth, especially when growth is more plentiful, and this sector of the market should suffer too.
Conversely, value stocks are, by their nature, cheaper in price, and secondly, investors tend to value them differently, not putting much store in future earnings, but more in analysing their balance sheet and determining if their current earnings justify the price. Value stocks are also seen as a lower duration assets and, in an environment where long duration assets (namely bonds and growth stocks) are going to suffer going forward – as interest rates start to rise slowly – we should see more investors move money from what has historically performed well (namely growth and quality), to what will start to enjoy more favourable tail winds.
So is value investing finally coming back in favour, or is this a short-term trade? We believe that it is here to stay and that the world economy is finally starting to move away from monetary to fiscal policy. It will not be without its hiccups, but it should finally be an environment where active managers can start to add some value (excuse the pun). Monetary policy has run out of road; negative interest rates in years to come will be seen as the stupidest thing to ever be unleashed on markets. Whether via tax cuts or government spending, fiscal policy is the new way forward. One thing is almost certain; one does not want to be overweight government bonds, in a world where politicians are going to be in charge of the chequebook.Is Value Now the New Black?