Growth versus Value: there’s a risk in everything, so be prepared for ups and downs
So here we go again with the never ending confrontation between the Growth guys and the Value guys: they both tell you that their philosophy is the surest way to make money in equities over the long term, Growth guys insisting on compounding attractive and relatively stable increases in profits which will deliver superior returns even if valuations are high, Value guys pointing out that you’ll get rich if you invest in unloved and overlooked good companies which trade at a discount to their intrinsic value.
They’re both right, aren’t they? The stock market is full of success stories relating the exceptional returns made by legendary Value managers or Growth managers. They have their time, eventually they’re out of favor, and eventually they thrive, depending on a multitude of factors. In our view the important thing is to make sure a manager applies an articulated process of security selection and sticks to what he’s good at.
The chart of the month shows the impressive outperformance of Growth versus Value which has happened so far this decade; Value has been decimated, for multiple reasons: the spectacular fall in interest rates is clearly a strong driving force behind this phenomenon, but it can’t explain everything. After all, US 10 year yields are today at the same level than in 2012, but during this period Growth has outperformed Value by an immense margin. With all due respect to the Value complex, companies ranked in the Growth category have overall done a great job by increasing profits steadily, maintaining or improving margins, generating cash-flow, paying dividends and/or buying back shares and, perhaps more importantly, have shown consistency in their outlook, which comforts investors in troubled times and unprecedented experiments in monetary policy from Central Bankers.
Nevertheless, we estimate that there’s a risk today that Value might attempt a comeback, or at least stop underperforming. In many cases, valuations are appealing, sentiment is quite negative, many companies have been pretty efficient in rationalizing their businesses and cleaning up their balance sheets, and it is possible that we’ve reached an extreme when it comes to the ultra-low level of interest rates. It is, incidentally, interesting to observe that in August and September this year the US 10 year yield fell from 2.01% to 1.66%, but despite that the Russell 100 Value has outperformed its Growth counterpart by a bit more than 1%.
In this context, we advocate for a well-balanced equity exposure: do not systematically exclude sectors which have lagged during this decade, and choose well your long term compounders. In other words, we think extreme positioning towards Growth or Value is a dangerous bet.