When growth is slowing, growth-oriented investing strategies are usually the most rewarding. So with earnings growth expected to decelerate in the coming two reporting periods, you’d think growth stocks would be the place to be. But Brian Belski, chief investment strategist at BMO Capital Markets, is creating a shift away from this approach towards value.
While value stocks have outperformed at times during the current bull market, Belski admits that long-term trends show that they drop out of favour with investors. In fact, the relative performance of value has been trending downward since at the start of 2007.
That’s place the relative price of value stocks versus growth at what he considers “abnormally low” levels C only matched by 1975 and 2000. What followed these depressed prices both times was an extended period of outperformance for value.
Belski also found what he labels structural breaks in favour of value stocks, the very first relating to the relative performance of worth having been highly correlated using the direction of interest rates for the past decade.
“More specifically, as rates have declined, value has underperformed,” the strategist said. “Thus, we believe value will benefit from the expected long and gradual march higher for rates within the coming years.”
On a far more short-term basis, he noted that the relative performance of value has proven to be highly correlated to economic surprises, and “value tends to perform best when things are improving, not deteriorating.”
With price-to-earnings multiples for S&P 500 stocks having expanded a lot in recent years – and are now slightly above long-term averages-, Belski thinks this is exactly the sort of environment where value investing pays off. He cited data going back to the mid-1970s that showed value outperforms growth in the months that follow above-average P/Es for the S&P 500.
“In reality, we are not suggesting that investors ignore companies that generate significant earnings growth,” the strategist said. “Rather, given market dynamics, we feel there are plenty of stocks that generate earnings growth in a reasonable price.”