Research.LeutholdGroup

From a top-down view, since 2003, Value’s performance has been much more closely tied to various asset markets and macro drivers. From a bottom-up perspective, we believe the change in Value’s migration behavior might be the key to its failure. We believe macro tailwinds and positive surprises are both necessary for a true Value revival.

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The selloff has served to amplify secular style-trends that were in place going into this debacle. Large Cap Growth has continued to outperform everything else, with the underperformance of Value stocks accelerating alongside market losses.

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The recent market turmoil has only served to exacerbate equity style trends that have been in place for years, with Value, Small Caps, and High Beta all underperforming relative to Growth / Momentum, Large Cap, and Low Volatility, respectively. 

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Last year we published a report titled Price to Book: The King is Dead (available on the Leuthold Research website) with the objective to better understand the decade-long struggle of the value style. Our findings showed that indexes based on the Price to Book ratio have indeed lagged since 2007 but that other measures of value performed significantly better until just recently.

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Equity market themes have been boringly consistent of late; growth beating value, large beating small, and domestic beating international. In the factor world, Momentum and Low Volatility have been investor favorites for most of 2019 while Value resided in last place – the same old, same old. Then, something remarkable occurred on September 9^th.

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Smart beta ETFs have become an immensely popular investment tool, attracting billions of dollars in AUM by providing investors with targeted exposure to factors such as Value, Momentum and Quality.  Characteristics such as these have been shown to generate alpha over time, and investors understandably wish to have focused positions in these return-generating styles. 

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Momentum has made a furious comeback after a rough start to the year, posting an +11% spread in both May and August. Value continues to get crushed and there has been nowhere to hide: The pain is equally distributed between cheap and expensive, and it’s happening in every sector.

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Value finally performed well during July, turning in its best month of 2018 on a spread basis. While the factor category is still deep in negative territory for the year, almost 85% of its underperformance is coming from the worst quintile outperforming the universe; meaning Value has mostly struggled because of expensive stocks outperforming, not cheap stocks lagging.

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Value is the philosophical cornerstone of many legendary portfolio managers and is widely recognized as one of the most robust quantitative investment factors. Yet, despite its compelling conceptual merits and long-term record of superior returns, recent years’ underperformance of Value has lasted long enough to weigh on even 10-year performance records. 

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While we’re not calling for an imminent market top, we are keeping a diligent watch from the crow’s nest for signs of a coming market correction.

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Table 5 shows annual performance results for the Cheapest Sector strategy under all four rebalancing frequencies, along with the lowest P/E sector for the annual version of the strategy.

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For those not psychologically suited to a momentum approach, we’ve developed a contrarian sector allocation strategy that’s delivered even better long-term performance than the Bridesmaid approach.

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With an abundance of year-end updates in this edition of Perception for the Professional, we plan to release the content for this “Of Special Interest” section separately in mid-January.

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Market history teaches us that investors behave differently in groups than they do as individuals.

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August factor performance was more of the same: Value underperforming everything else and extending its losing streak relative to Growth.

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Investment factors experience performance cycles just like every other asset and index. The Value factor is robust across definitions, as all eight versions produced positive excess returns under long/short and long-only methodologies.

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Not wanting to be seen as shameless shills for momentum investing, we’ve developed a contrarian alternative to the Bridesmaid sector approach that’s delivered even better long-term outperformance. It’s based on the holy grail of value investing: Low P/E.

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Small Cap Growth stocks have gotten off to a rotten start in 2016—down almost 12%. On a relative basis, the segment has also been lagging Small Cap Value—underperforming by 9% since last July.

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Foreign stocks’ perpetual underperformance has opened up a valuation gap that should look extremely appealing to anyone with a horizon of more than two years. But proceed with caution.

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The year has been especially tough on managers who might have shared our cyclical worries over the stock market, but who’ve elected to stay fully invested via seemingly lower risk value approaches.

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For the third consecutive year (thus far), quantitative factors worked best within the Materials sector. Energy also saw success as the decline in oil hurt the same stocks as in 2014. Factors were least effective in Health Care and Telecom.

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Growth Edges Out Value As Stocks Rebound

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Despite the down market, Large Cap Growth expanded its YTD outperformance over Value—now almost 11%. 

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Conventional measures of market action, like breadth and industry leadership, point to the formation of a bull market top. Divergences abound.

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Growth Showing No Mercy To Value

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First Half Of 2015 All About Growth

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Small Cap Growth stocks were the clear outperformers in May, up almost 4%. Growth stocks are still in favor when comparing YTD figures, with the performance gap especially prevalent in the Small and Large Cap spaces.

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It’s well known among market professionals that value investors are congenitally grumpy (for example, the retired keeper of our Undervalued & Unloved stock screen went by the internal nickname of  “Eeyore.”) Worse yet, bad market conditions have lately combined with value managers’ bad genetics to make them an especially unhappy lot, even by their own dour standards.

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Value stocks, recent underachievers, regained some lost ground in April. Large Cap Value was the month’s big winner—helped in large part by rallying energy firms. Large Cap Growth still leads YTD by more than 5%.

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Growth Continues Run In Q1

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Growth Stocks Dominating Value

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Momentum Continues For Growth Stocks

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Growth Strong In Second Half Of 2014

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Growth Stocks Better In November

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Large Cap Value Left Out Of October Surge

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Growth Stocks Better In Rough September

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 We additionally compare factor results YTD to that of 2013 YTD; shift to Large Caps should have staying power.

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Large Cap Growth has had an impressive advantage over Large Cap Value in six of the past seven years but that trend is reversing in 2014.

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Growth And Value Go Down Together

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Value strong again in Q2.

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