Value Investing Is Back. But for How Long?
A bounce in bond yields is good news for dividend payers.
3 min
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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.
Chris Dixon, a partner who led the charge, says he has a ‘very long-term horizon’
Americans now think they need at least $1.25 million for retirement, a 20% increase from a year ago, according to a survey by Northwestern Mutual
Many people are spending more than they think as inflation stays elevated
3 min
Many people have a gap between what they think they spend and what they actually spend. This gap has widened recently as the financial and psychological effects of higher prices further strain people’s budgets.
Elevated inflation has rippled through American’s wallets for more than a year now. Some have cut back, while others have increased their spending to keep up. Credit-card balances were staying relatively flat for a while, but have jumped higher recently.
In the fourth quarter of 2022, the average household’s credit-card balance was $9,990, up 9% from in the fourth quarter of 2021, according to WalletHub, a consumer-finance website. Meanwhile, the average credit-card interest rate rose to a record high of about 20% last week, according to Bankrate.
Financial advisers say the larger amount of credit-card debt while rates are higher is one indication that some Americans are spending more than they think they are. This type of spending can reduce people’s ability to pay for important items down the road, such as college for a child or even fund their own retirement. More immediately, it will put people in costlier debt.
“If people spend too much on credit, they could end up trapped in a cycle of debt,” said Courtney Alev, consumer financial advocate at Credit Karma.
Spending less isn’t always possible when everything from groceries to travel is generally more expensive. Still, people can find ways to cut back if they understand more about why they are overspending and take a closer look at their finances.
Inflation on top of inflation
The power of compounding is a boon to investors, but not to shoppers.
Money grows much faster than most people expect because interest is earned on interest, said Michael Liersch, head of Wells Fargo & Co.’s advice and planning centre. A similar concept applies to inflation: Prices rise, and if inflation remains high, prices continue to grow on top of already-inflated prices, leaving people off guard.
“People get constantly surprised that their money isn’t going as far as they thought it would,” he said.
The cost of eating out and going for drinks continues to take Dina Lyon aback. Even though the 36-year-old married mother of one is dining out and ordering in far less than she did a year ago, some prices still give her sticker shock.
“The difference between cooking at home—about $10 for nice pasta and quick sauce from canned tomatoes—versus Italian takeout of $50 is astronomical,” said Ms. Lyon, who lives in Brooklyn, N.Y.
Outdated budgets
People tend to underestimate their future spending in large part because they base their predictions on typical expenses that come to mind easily, said Abigail Sussman, a professor of marketing at the University of Chicago Booth School of Business.
She and other researchers found that when people are coming up with predictions, they tend to think about what they usually spend money on—such as groceries, rent and gas—and base their predictions primarily on these expenses. They are less likely to consider atypical expenses, such as car repairs or birthday presents, the researchers found.
This pattern is particularly problematic when inflation is high, said Prof. Sussman. When the price of the same basket of items rises, people might not account for these price increases in their future budgets, she said.
Further, times of stress cause people to be less intentional about tracking their money, said Mr. Liersch. They might also spend more than they know they can afford to soothe feelings including anxiety and depression.
According to a recent survey by Credit Karma, 39% of Americans identify as emotional spenders (defined by the study as someone who spends money to cope with emotional highs and lows.)
Take control
You have a better chance of staying under budget if you become more aware of your spending instead of sticking your head in the sand, financial advisers said.
One thing Adam Alter, a professor of marketing at New York University’s Stern School of Business, does is create a line item in his monthly budget for one-off expenses, such as an unexpected medical bill. This gives him a cushion in his budget and enables him to more fully examine how much he is spending each month, said Prof. Alter, who has studied overspending.
People might also wish to include an escalating buffer into their budgets of say, 2% to 5% a year, to account for inflation, he said.
Jay Zigmont, a financial planner in Water Valley, Miss., looks at clients’ total take-home income from the year, subtracts everything they must spend money on such as their mortgage and how much they saved. The remaining number is how much they spent on discretionary spending.
In most cases, clients are surprised they spent so much, he said.
Once people know how much they spend, Britta Koepf, a financial planner in Independence, Ohio, suggests they practice mindful spending. Before any purchase, ask yourself if you really want or need what you are buying. Frequently, the answer is yes, but sometimes waiting five seconds will prevent you from overspending, she said.
You can also practice mindfulness by delaying purchases further.
“A lot of the time, if I tell myself that I will purchase it next week, I find that I am no longer interested a week later,” she said.
Self-tracking has moved beyond professional athletes and data geeks.
