THE BARGAIN BUCKET; TRADING & INVESTMENT What could change the fortunes for value investors? Katherine Denham finds out.
WE BRITS might love a good bargain, but the same doesn't always apply to stocks. With growth stocks like Facebook, Amazon, and Apple surging beyond belief over the past decade, their undervalued cousins have been left behind. Value investors select stocks that are trading below what they are worth, on the premise that the markets will eventually recognise that they are undervalued, prompting the share prices to rise. It's a strategy used by investment guru Warren Buffett.
And yet, since the financial crisis, value investors have had a tough time.
Tony Yarrow, co-portfolio manager on the TB Wise Multi-Asset Income Fund, says that - compared to the market average - the past 10 years has been the most sustained period of underperformance for the value style since at least the mid-1950s.
The cause of this is largely related to ultra-loose monetary policy (in the form of very low interest rates and quantitative easing), which tends to favour growth-style investing.
According to Jason Hollands from Tilney, this has encouraged risk-taking, while cutting financing costs, prompting a strong run for growth investing over the last decade.
"In recent years, many tech companies have been using cheap debt financing to buy back their own shares, which supports their share prices."
Hollands also points to the significant growth of passive investing as a reason for the outperformance of growth, because index investing only takes into account the market cap of companies, rather than underlying fundamentals.
So what could prompt a comeback? Of course, it's impossible to accurately predict the timing of market movements, but it is possible to look at factors which might be the catalyst for change.
It's thought that a slowdown in global growth could reverse the market fortunes in favour of value stocks.
For example, while GDP growth in the US economy is nearly at record levels, forecasts have been revised down since President Trump escalated the trade war with China.
"Periods of slowing growth, when the future outlook is less certain and investors become more defensive, are typically perceived to be periods that are favourable to value investment strategies," Hollands explains. "That's because doubt creeps in about the pace at which companies can continue to grow their revenues, and so there is a greater focus on whether company valuations are fair today."
A slowdown will hit the overpriced companies first, as they have further to fall. Meanwhile, Yarrow says disillusionment with disappointing growth stocks could also act as a trigger, leaving investors seeking out unloved companies instead.
You'd expect that with passive investing pushing share prices higher, it would be easier to find undervalued stocks.
Irmak Surenkok, emerging market specialist at T.Rowe Price, says the popularity of passive investments has resulted in large index stocks getting even larger, which has left the mid-cap bucket behind. "This has created a fertile hunting ground in the mid-cap space, where we still see an abundance of fundamentally-sound 'forgotten' companies."
But while Morningstar's Dan Kemp agrees that passive funds create more mis-priced opportunities for value investors, it can also cause additional pressure to conform.
In fact, value investing can also be a difficult strategy to deploy, because - as Kemp points out - you need to be able to act differently from the herd in order to side with stocks that are unloved by the rest of the market.
"In practice, it is difficult to do this consistently because, as humans, we typically dislike holding opinions that are contrary to the dominant view."
It might not be the easiest strategy, but it's one that can produce large rewards if you're patient. And while value stocks may performed poorly over the past decade, it's only a matter of time before the tables turn.
As humans, we typically dislike holding opinions that are contrary to the dominant view