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In the name of diversification, you likely include a combination of growth and value stocks when building your client’s portfolios. The ratio, of course, depends on their risk tolerance and long-term and short-term goals.

Growth and value each have their own merits: growth investing can potentially provide high returns over the long run, while value investments can be attained at a lower price and often pay out dividends.

Your portfolio allocations may also depend on the economic environment. For the past decade, growth has demonstrated tremendous performance. In fact, in the past ten calendar years, growth stocks have outperformed U.S. value stocks by an average of 6.3 % per year.⁽¹⁾

Growth stocks were especially bolstered by the technology sector – I’m sure clients have reached out to you to discuss Amazon, Alphabet, and Apple more than a few times.

Recent Performance of Value Stocks

However, this past quarter value outperformed growth, and some investors hypothesize that this trend may continue for some time.

The Russell 3000 Growth TR USD shows a Q1 2021 quarterly return of 1.19, while the Russell 3000 Value TR USD shows a return of 11.89. Similarly, Q4 of 2020 showed a value return of 17.21, and a growth return of 12.41.⁽¹⁾

This is not the first time value has outperformed growth by any means, however. Growth and value tend to perform in a balancing act, with value outperforming growth, then growth outperforming value. This give-and-take has been observed through time.

According to Forbes, “since 2009 growth has generally been outperforming value. However from 2000-2008 value was trouncing growth. Prior to that, growth was in the driving seat and so forth.”⁽²⁾

For example, the Russell 3000 Growth and Value indexes in 2020 showed annualized returns of 38.26 and 2.87, respectively, placing growth returns far ahead. However, if we look back to the 2016 annual return, value was at 18.40 while growth gave back a far lower 7.39.⁽¹⁾

The Give and Take between Growth and Value

Many believe the economic recovery we are currently experiencing due to the COVID-19 pandemic creates an environment where value stocks shine. As you know, the Federal Reserve has been keeping short-term yields next to zero. This, along with stimulus spending, leaves many investors preparing for inflation.

It is often stated that value stocks perform better than growth stocks during high inflation because their payouts are more immediate.⁽³⁾ Growth stocks may become overvalued, which accounts for the decline in their performance. According to Investopedia, this points to a positive correlation between inflation and the return on value stocks.

In a recent publication, Ben Inker of GMO addresses another common perception in the investment world, “that value stocks are a ‘shorter duration’ asset than growth stocks and should naturally outperform whenever interest rates are rising and underperform when they fall.”⁽⁴⁾

Inker argues that the duration of growth and value stocks are not too distant from one another because “neither value nor growth indices hold a constant set of securities through time.”

For this reason, Inker suggests that the performance of value is not necessarily tied to rates, stating “neither history nor economics suggest that there is anything permanent or inevitable about there being a meaningful correlation between the performance of value stocks versus the market and shifts and bond yields.”

While there may be some correlation between bond yields, duration, and the give-and-take between growth and value stocks, other factors also affect performance, such as rebalancing between the growth and value indices.

Despite the direct and indirect causes of this change in performance, GMO stated that they expect to see value outperforming growth over the next several years. However, as always, consider your client’s risk tolerance and long-term goals if you are considering adjusting their portfolio.

Sources:

¹ Dunham Analysts, Dunham & Associates Investment Counsel, Inc.

² https://www.forbes.com/sites/simonmoore/2020/09/14/after-a-weak-decade-value-may-be-set-to-offer-attractive-returns/?sh=29b769a243b5

³ https://www.investopedia.com/articles/investing/052913/inflations-impact-stock-returns.asp

⁴ https://www.gmo.com/americas/research-library/the-duration-of-value-and-growth/

Disclosure:

The Russell 3000 Growth Index is a market capitalization-weighted index based on the Russell 3000 index. The Russell 3000 Growth Index includes companies that display signs of above-average growth. The index is used to provide a gauge of the performance of growth stocks in the United States.

Russell 3000 Value Index is a market-capitalization weighted equity index maintained by the Russell Investment Group and based on the Russell 3000 Index, which measures how U.S. stocks in the equity value segment perform by including only value stocks.

You cannot invest directly in an index. No two markets are the same and past performance is never an indication of future results.

As of March 31, 2021: