Value Investing Is Back. But for How Long?
A bounce in bond yields is good news for dividend payers.
A bounce in bond yields is good news for dividend payers.
Value investing—buying stocks that are cheap on measures such as earnings or book value—is having a renaissance. Up to last Thursday, large value stocks beat more expensive “growth” stocks by the most of any 50-day period since the technology bubble burst in 2000-01, with the exception of the post-vaccine rebound early last year.
The big question for investors: Does this mark the rebirth of what was a dying strategy? Or was this just another spasm, already fading as technology stocks rebound?
The answer depends in large part on the role of rising Treasury yields. Bond yields have leapt since early December, as expectations grew that the Federal Reserve would raise rates aggressively this year to tackle inflation. That coincided with a tumble in growth stocks, dragging the Nasdaq index to within a whisker of a bear market, down almost 20% from its November peak.
One interpretation is that the leap in yields was the pin that pricked the bubble in growth stocks, shocking investors out of their lazy assumption that Big Tech just always went up. For hard-core value investors (and after years of underperformance, they have to be hard-core), this marks the moment when the purchase of cheap stocks can return to its rightful place as a leading strategy.
Cliff Asness, founder of quantitative fund manager AQR, thinks it is plausible that the bond-yield rise was the shock that changed investor views on growth stocks. “It’s a catalyst not because of solid economic reasons but because catalysts for when irrationality will blow up are behavioural magic, not economics,” he argues.
I think this explanation works for the truly speculative growth stocks. A cluster of wildly expensive crypto, clean energy, meme stocks and SPACs have been deflating since early last year, when bond yields also soared. They plunged again as yields jumped this year, with the Ark Innovation exchange-traded fund—which holds many highly speculative stocks—falling 34% this year to Friday’s low. (By Monday’s close it was up 17% from that low.)
The link between bond yields and speculative growth stocks is clearly extremely loose, because their price is dominated by sentiment—Mr. Asness’s “behavioural magic”—not by spreadsheets of discounted cash flow.
Larger stocks can, of course, be dominated by sentiment too, as shown by the involvement of huge telecom, media and technology stocks in the dot-com bubble of 2000. But most of the time there is a tighter focus on the outlook for earnings and the discount rate.
It is that discount rate that provides the alternative interpretation for why growth stocks sold off as bond yields rose: mathematics. The valuation even of highly profitable companies such as Microsoft is high because they are expected to keep growing earnings at a high rate for a long time, and those far-in-the-future earnings are worth more today when the discount rate, based on bond yields, is lower. As that discount rate rises, those future earnings should be worth less to an investor.
In the bond market, this idea is known as the duration of a bond, the average time it takes for the cash from it to add up to the price you pay for it. The longer it is, the more sensitive the price is to changes in the yield. One example: The price of the 30-year Treasury bond fell more than 10% from its Dec. 3 high to its mid-January low, as its yield rose just 0.5 percentage point, because the low yield meant it had an exceptionally long duration of 23 years.
Something similar happened to stocks this year. The longer their duration, the more they fell, using the dividend yield as a simple proxy for the duration.
Because growth stocks have the highest duration (the lowest dividends), and value stocks the lowest (the highest dividends), value had a wonderful time. As bond yields have pulled back a bit, or at least their upward climb has been interrupted, growth stocks rebounded.
The trouble with this explanation is that the link between bond yields and bigger gains for value stocks isn’t super strong, and changes over time. Even in the past year, long-dated bond yields and a pure measure of value stocks only moved together about 30% of the time, and that relationship has been weaker recently.
Partly that is because other things matter too; most important, the market’s assessment of the economy’s strength has a big effect on value stocks.
But markets move with the heart as well as the head. Mr. Asness is right that sentiment matters, and it may be turning back in favour of value, helped by the math. I think bond yields are a bigger factor. If I’m right, the danger is that the Fed, geopolitics or supply problems might lead yields to pull back, and value’s recent strength evaporates.
Reprinted by permission of The Wall Street Journal, Copyright 2021 Dow Jones & Company. Inc. All Rights Reserved Worldwide. Original date of publication: February 1, 2022.
Following the devastation of recent flooding, experts are urging government intervention to drive the cessation of building in areas at risk.
The waterfront residence is one of Port Stephens’ finest homes.
In the coastal township of Salamander Bay — nearby to Port Stephens — comes a unique home crafted to take full advantage of unbroken ocean vistas across three levels.
With one-of-a-kind flair, the stunning 5-bedroom, 3-bathroom, 3-car garage home of 52 Randall Drive Salamander Bay is nestled on a private 577sqm plot, optimised through intelligent design to take advantage of the Port Stephens landscape and lifestyle.
Within the home sees the typically coastal textures of natural oak floor and timber feature walls take hold while stone and tiled adornments add layers of luxury.
The open plan living, kitchen and dining areas incorporate a fireplace and near floor-to-ceiling glass that opens to create a seamless indoor-to-outdoor dining and entertaining space on the home’s top floor.
The heart of this area is the kitchen, centred around a marble-topped island, state-of-the-art European appliances and an attached bar area, with built-in refrigeration, accompanied by a butler’s pantry.
Also here comes a grand outdoor spa, central to the balcony, while another outdoor entertaining area with a pizza oven is found on the middle floor.
Downstairs once again comes a second living space replete with the perfect wine cellar — cooled by the natural rock foundation of the home — offering an array of entertaining options
Of the home’s accommodation comes a private and luxurious master retreat with expansive ocean views, a walk-in wardrobe and an ensuite, here, speckled with grey terrazzo tiling and timber joinery vanities. A further four bedrooms are found throughout the home along with two family bathrooms rounding out the offering.
Less than a five-minute walk from nearby amenities of shops, restaurants, cafes and beaches the home offers the best of the Port Stephens area.
The listing is with PRD Port Stephens’ Dane Queenan (+61 412 351 819) and Erin Sharp (+61 499 912 311) and is heading to auction; prd.com.au