It looks like value stocks are making a comeback after being clobbered by growth stocks for about a decade.
Value and growth stocks move in cycles. The 1980s were led by value stocks; the 1990s by growth. Value beat growth for seven consecutive years starting in 2000; then growth dominated through 2021.
Could this be the start of a new surge for value stocks? If you look back far enough, you might conclude that value never really went away.
“There is pervasive historical evidence of value stocks outperforming growth stocks,” concluded a report last year by Dimensional Fund Advisors, an index-investing specialist. From 1927 to 2021, Dimension calculated, value stocks annually returned 4.1 percentage points more than growth stocks, on average.
That’s an enormous difference, but it’s no solace to value investors who missed the growth-stock boom, led by giant tech companies, that followed the last recession. The question is why we should believe that a shift to value is actually at hand.
First, understand the difference between value and growth. Value stocks are generally out of favor. They are less flashy, and their profits accumulate less quickly. So investors pay fewer dollars for every dollar of a value stock’s earnings, revenues, and net assets. Growth stocks are well loved by the market, and growth investors like jumping on fast-moving freight trains.
The reason that value beats growth in the long run is that value stocks are cheaper when you buy them, and growth stocks don’t stay hot forever. In fact, growth doesn’t stay growth forever.
The difference in performance between value and growth tells us that buying out-of-favor stocks—in whatever sector—pays more in the long run than buying stocks with which investors are infatuated.
So why do growth and value move in cycles? The best explanation is that investors move in packs. Their enthusiasm is contagious but eventually wears out. In addition, just a few huge growth stocks can pull that style train—at least for a while. Then, momentum works in the opposite direction.
Because stocks travel between style categories, the best way to invest in value is through funds, which regularly rebalance their portfolios to take changes into account. In addition to the iShares S&P 500 Value ETF you can choose Vanguard S&P 500 Value, or iShares Russell 1000 Value or Vanguard Russell 1000 Value, among others.
What’s remarkable about value is that it not only produces higher returns than growth over the long term but also carries less risk. Using beta (which measures movement of an asset relative to the market overall) as a metric, the S&P 500 Value index is 15 percent less volatile than the Growth index. Although individual value stocks are appealing right now, I like the idea of a portfolio balanced between one or two value funds and several growth funds or stocks. I’m not giving up on great growth companies, but now is the time to return to value.
