Produced by Alessia Giustiniano. Filmed by Rod Fitzgerald.
The observation that this long rally in US equities is the most hated bull market in history, has become so frequently repeated that it's becoming a modern-financial cliche. Less commonly asked though, is the simple question, who exactly are all the grumps doing this hating?
In a week where the S&P 500 has hit another all-time high, long-term holders of large-cap US shares will be happily sitting now on their gains. On the other hand, the most vocal haters of this rally are fund managers who complain that it has been driven by only a small number of overvalued growth stocks was less glamorous value shares, that they favour, have been left behind.
Those who make this argument can point to the significant outperformance of the Russell 1000 Growth Index, which is comprised of companies with high price-to-book ratios. Against the Russell 1000 Value Index, which only includes companies viewed as cheap on this basis. The value index has been trounced by growth by 10 percentage points this year.
Now as concerns about over high-equity valuations in the US, anyone who believes that they will be able to protect themselves by buying a value index, constructed by using a cookie-cutter methodology, should think twice. Yes, many of the companies included look cheap on a crude basis, but a closer look shows they are actually cheap for a reason. Much of the Russell 1000 Value's largest weightings are simply companies that do not generate much value for their investors. AT&T, Pfizer, and Exxon, all last year, made less than a 5% return on invested capital, according to research by New Constructs. Switch over to what is classified as growth and we see the largest weightings-- Apple, Facebook, Alphabet, and Microsoft-- each made over 28% return on invested capital.
The compounding effect such differences and profitability have on these company's equity valuations, especially if these profits can be reinvested in their businesses at the similar rates of return, is simply immense. The fact so-called growth has trailed value is not an injustice to be complained about. It is simply the reflection of better businesses outperforming worse ones.