The writer is global equities chief investment officer at Nuveen
Among well-worn investment tropes, the perennial favourite “growth vs value” is the stock market version of Godzilla vs Kong, the current US box office hit. Invest in companies that offer strong growth prospects, or those that appear undervalued by some metric?
It’s an epic showdown between two iconic rivals. Each will land powerful blows and score their share of points, pleasing their respective fans. There’s lots of shock and awe, but not much clarity. The ultimate victor? Subject to debate. Frankly, the overall narrative is not that convincing.
Whether it is a Hollywood reboot or Wall Street’s conventional wisdom, we have seen it all before. I will admit there is a certain superficial comfort in sticking with what we know, or what we think we know. But let us acknowledge this much: the value versus growth debate is over — not because one style has at long last vanquished the other, but because the “competition” between the two is based on a forced dichotomy driven more by perception than reality.
We are not rewriting history here. Of course there have been times when value has beaten growth and vice versa — sometimes by wide margins and for extended periods. But betting on one style over the other based on the magnitude or duration of its past outperformance in any given timeframe is not a sound strategy for maximising returns.
The reason is simple: performance drivers are period-specific, hard to predict and unlikely to be repeated. Investors who jump on a style bandwagon that has already logged a lot of miles in one direction will be particularly vulnerable in the event of a sudden U-turn.
Take growth, for example. Its market leadership between 2017 and 2020 was a function of a rare confluence of events. Donald Trump’s surprising 2016 election victory led to lofty expectations for strong economic growth but when they failed to materialise, interest rates fell and demand for commodities weakened — both a boon to growth stocks.
Meanwhile, a wave of technological innovation, highlighted by the emergence of cloud computing, the accelerated adoption of ecommerce and a migration to mobile, transformed the global landscape.
This once-in-a-generation shift drove growth stocks to new heights, led by global technology platforms. Beginning in November 2018, growth’s dominance was further bolstered by a collapse in the 10-year US Treasury yield, which hit an all-time low of 0.54 per cent in March 2020 during the early days of the Covid-19 pandemic. Lower bond yields make the value of future earnings for growth stocks more attractive.
Value’s recent ascendance has also been driven by extraordinary circumstances. Unprecedented levels of fiscal and monetary stimulus enabled the US economy to rebound much more quickly than anticipated from the virus-induced recession. Against that backdrop, value stocks hit their stride in September.
Their valuations at that point were among the lowest seen in two decades, providing an attractive launching pad for a rebound. Strong performance was further augmented by positive vaccine headlines that boosted optimism for economic reopening. From September 2020 through to the end of April, the Russell 1000 Value Index has gained 31.2 per cent, more than double the 14.4 per cent return of its growth counterpart.
In the wake of vaccination rollouts, healthy economic data and new stimulus from Joe Biden’s administration earlier this year, value’s outperformance remains intact, for now. But I am not convinced it can be sustained beyond the near to medium term, because the unique mix of factors that have powered it to this point have generally run their course.
Both value and growth stocks will do well amid the global economic reopening and a likely surge in second-quarter earnings. But the determining factor will not be whether a given company carries a value or growth label.
But if we reject the old model of choosing equity investments based on this old model, what takes its place? Instead of fixating on style, investors should focus on companies with strong fundamentals, poised to benefit from the cyclical economic recovery and long-term strong secular growth trends such as those we are seeing in emerging markets, small caps and consumer discretionary sectors.
As style recedes in importance, investors may find their portfolios hold relatively more “growth” or “value” exposure, but perhaps they will also realise such distinctions do not really matter.
Just as the arch-rivals in Godzilla vs Kong eventually discover (spoiler alert), it can pay to put differences aside.
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