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Giving a Little Boost to Value Performance – With a Little Factor Awareness and Luck
Traders Magazine Online News, August 30, 2017
In a piece headlined “Hot-Stock Rally Tests the Patience of a Choosy Lot: Value Investors,” The Wall Street Journal on August 7 detailed the poor performance of Value funds and indices relative to their Growth counterparts. We thought it might be instructive to look at this issue through a risk and attribution lens, using the Russell 1000 Value and Russell 1000 Growth indices. The results were interesting. The Value index was not any riskier than the Growth index on average, and its distribution of risk across the major components was quite similar. Factor exposures and specific risk were the main causes of its downfall, which may provide some hope to beleaguered Value investors.
First, we verified the results, although they might not be as bleak as the article suggested: To be sure, over the past 10 years the Russell 1000 Value has underperformed its Growth counterpart by about 3% annually. This is largely the result of extreme underperformance in four of those years: 2007, 2009, 2015 and 2017-to-date. Value actually had a strong 2016, gaining more than 17% versus Growth’s 7% return. In the other years since 2007, the differences were quite small. Still, on a cumulative basis, there has been little respite for Value investors, and the difference has accelerated this year.
We found these results a little surprising. Performance of our related style factors did not follow this pattern.
In fact, the cumulative return to the Earnings Yield factor in our US4 model has been steadily positive over the same period (save a sharp downturn in the first half of 2016), and the US4 Value factor has outpaced the US4 Growth factor.
Don’t Give Up on the Value Bet Just Yet
Extending back before 2007, Value had quite a good run relative to Growth. We looked at rolling 6-month, 12-month, 3-year and 10-year returns and observed considerable variation (Figure 3). Value sharply
underperformed Growth during the Internet bubble, but came roaring back after the bubble burst, leading to the highest magnitude of outperformance for either index. That outperformance lasted until the Global Financial Crisis, and Value’s high Financials’ weighting dragged it down relative to growth. On a 10-year basis, relative returns have not yet recovered. But these charts illustrate that the Value-Growth bet is very cyclical.
Value’s Risk Relative to Growth’s Is Cyclical, Too
We can look at the relative riskiness of the two indices in a number of different ways. Forecasts of total risk have been similar through time, and have followed a similar path (Figure 4). The biggest difference over the past 10 years was during the Global Financial Crisis. After that spike, Value became less risky for a while, reaching just 80% that of Growth’s in mid-2014. After a two-year climb in which Value’s risk eventually exceeded Growth’s, the ratio has fallen sharply since May of this year.
Attribution Shows Managers a Potential Way Out
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