With growth companies riding high for much of the last decade, there has been plenty of speculation about when, if ever, markets would see a sustained value rotation.
Vaccine breakthroughs late last year sparked just such a resurgence in traditional value sectors and our Liontrust Multi-Asset portfolios have benefited, increasing our cyclical bent via managers looking to take advantage of these out-of-favour areas.
Putting aside concerns that the rotation may already be petering out, what this rally has reinforced is that these style terms are broad labels and there is far more nuance in markets than a simple growth/value divide. The idea of playing one style over another has to be filtered through regional and sector lenses to tease out opportunities and relying on historical trends can often send investors down the wrong path.
Coming into 2021, as the rotation took off in earnest, being underweight the US and overweight Europe, Japan and the UK (as the premier growth and three value markets) superficially seemed the best way to access the rally – but this has only proved partially true.
Looking at US equities, for the latter half of the 20th century and the first part of the 21st, performance was roughly on a par with the rest of the world, albeit with large swings in either direction. This changed significantly in the wake of the Global Financial Crisis, with the US’ dominance in technology – and the emergence of the FAANG (Facebook, Amazon, Apple, Netflix and Google) giants – dovetailing with the overall growth trend in markets. As a result, growth dominated overall ‘equity’ returns for the bulk of the last decade.
As would be expected, this led to a protracted period in the doldrums for ‘value’. It has always been accepted investment wisdom that value outperforms growth over the long term: over the near 100 years from 1926 to the end of 2020, the respective figures were 1,344,600% versus 626,600% according to Bank of America data. But as the years passed and the disparity in favour of growth got ever larger, with tech dominance continuing to grow, investors began to question the attractiveness of value as an investment style.
Positive vaccine news turned this trend on its head, however, sparking a broad rally across equities and value performing strongly over the first half of 2021. Value generated double the returns of growth, compared to a 34% gap in favour of the former in 2020. The obvious assumption, against such a backdrop, would be that the nominally growth-focused US has had a torrid time but, in fact, the market was simply back to performing in line with the rest of the world, with its value stocks taking up the reins across large, mid and small caps.
This perhaps reinforces the fact the value/growth split is more pronounced in US fund management than in other regions, so when conditions are favouring one style over the other, it tends to affect the whole market.
More recently, concerns about Covid variants and economies failing to hit growth expectations have slowed the value rotation, with investors trimming exposure to cyclical, value and small-cap stocks and moving back into the familiar embrace of technology, growth and large caps.
Often viewed as a more value play, it is therefore perhaps not surprising that European equities have been among the best-performing markets this year. Looking in more detail, however, the more pertinent driver has been smaller and medium sized companies across investment styles. Quality and growth, which held their own during the value rally, have now taken the lead in the year to date. Europe is actually more of a cyclical market as an exporter to the rest of the world so it is well placed to benefit from improving economic conditions as the world continues to open up: within the ‘value’ cohort, more cyclical sectors have outperformed traditional defensives such as tobacco and utilities.
The picture is broadly similar in the UK, which has enjoyed considerably better fortunes in 2021 than last year, with short-term uncertainty around the Brexit vote lifting and the high proportion of value and cyclical businesses enjoying strong tailwinds as the Covid situation improves. Again, the best performance has come from stocks down the market cap scale, fuelled by investor risk rebounding and merger & acquisition activity, which, once again, has seen growth re-assume leadership more recently.
Similar nuance is required to get the full picture in the ‘value’ Japanese and ‘growth’ Asia and emerging markets. Japan is seeing a similar trend to the US, with value and high dividend businesses outperforming year to date and very little dispersion across market caps. Again, this may be down to very clear lines between styles among Japanese fund managers.
Emerging markets and Asia, meanwhile, have a similar profile to Europe, with small caps outperforming so far this year. Growth as a style has lagged, exacerbated more recently by the crackdown on technology companies in China and uncertainty around this increased political risk. Looking forward, it will be increasingly important to consider what type of businesses are viewed favourably by the government; those that widen the wealth gap seem fundamentally at odds with a regime attempting, at least nominally, to create an equal society.
As would be expected, these underlying drivers tend to ebb and flow but, stepping back from the day to day, we believe focusing too much on style labels can prove reductive when investing for the long term and potentially risk missing opportunities. Our Multi-Asset portfolios and funds are built on long-term Strategic Asset Allocation (SAA) so are not subject to large-scale shifts into or out of asset classes. But fear and greed continue to tempt investors into trying to time markets and, feasibly, the recent value rotation could have encouraged people to jettison US equities when performance has actually remained consistent.
Looking forward, we are always cautious about extrapolating short-term data into long-term outcomes and warn against overreaction, both positive and negative. As stated, there are signs the value rotation may be subsiding as momentum in Purchasing Managers' Indices (PMIs) rolls over but we also point to supportive longer-term factors, including President Biden’s infrastructure programme and the ‘Green Industrial Revolution’ in the UK.
Some pushback against the reflation trade was inevitable after such a strong recovery and there may be another leg up in value to come as we head into the autumn, particularly as many growth sectors remain prohibitively expensive. Value has underperformed for many years and we feel the recent rotation may ultimately prove the first part of a multi-year retrenchment.
