Value stocks post best stretch in 20 years relative to growth stocks --- but that's starting to change. Why?

Value stocks post best stretch in 20 years relative to growth stocks — but that’s starting to change. Why?

Since the start of the year, a longstanding trend in U.S. stocks has suddenly reversed: formerly highflying growth stocks have gotten hammered, while “value” names have taken on the mantel of market leaders at a time when stocks are on track for steep annual losses.

For years, rock-bottom interest rates and negligible inflation motivated investors to plow money into megacap technology stocks and other high-profile “growth” names.

But since late 2021, the Federal Reserve’s plan to raise interest rates and rein in its balance sheet have prompted a dramatic reversal in this dynamic. During this time, the Russell 1000 Value index
RLV,
-0.52%
has dramatically outperformed the Russell 1000 Growth Index
RLG,
-0.97%,
with the value index having fallen by only 13% since the start of the year, compared with a near 26% decline for the Russell 1000 Growth index, according to FactSet data.

According to Bank of America, this marks the strongest performance of value stocks relative to growth stocks in 20 years, since the aftermath of the dot-com bubble’s implosion.


Source: Bank of America

However, since the start of July, this trend has started to reverse as investors have begun to question if “peak hawkishness” is now behind us.

Futures traders have priced in rising odds that the Federal Reserve could start cutting interest rates as soon as next year, and growth stocks have rallied, climbing more than 4% since the start of July, according to FactSet. For the same period, the Russell value index has risen by just 1%. By comparison, the S&P 500
SPX,
-0.84%
is up roughly 2.7%.

Since the beginning of July, the top-performing S&P 500 sectors have been consumer discretionary (dominated by Amazon. com
AMZN,
+0.18%
and Tesla Inc.
TSLA,
+0.20%
), information technology and communication services, FactSet data show. All three sectors are staunchly in the “growth” camp, and all three are dominated by megacap tech names.

For what it’s worth, Bank of America’s chief quant Savita Subramanian continues to prefer value over growth, and BofA generally expects value stocks to outperform growth in the coming years as inflationary pressures prove to be “stickier” than markets are presently pricing in.

Recently, the notion that the U.S. economy is trapped in a more substantial slowdown than economists had previously anticipated has helped to bolster growth stocks. The logic behind it goes like this: a slowdown in growth would likely help to undercut inflation, allowing the Federal Reserve to either pause its rate-hike plans later this year, or perhaps even start the next round of rate cuts next year — something that Fed funds futures markets are already starting to price in.

Larry Cordisco, a portfolio manager at Osterweis Capital Management, said he thinks investors might be underestimating the staying power of inflation. “If the ‘peak inflation’ bet is on, then the secular growth bet is also on,” Cordisco explained. But the reality remains that there are plenty of long-term impediments that will likely keep inflation elevated well above the Fed’s 2% target, including infrastructure obstacles that will likely constrain crude oil production and housing construction in the U.S.

For some additional context: the biggest component of the Russell 1,000 Growth Index is Apple Inc.
AAPL,
-2.06%,
while the biggest component of the Russell 1,000 Value index is Berkshire Hathaway Inc.’s Class B shares
BRK.B,
-0.80%.

As for the market’s performance on Monday, the tech-heavy Nasdaq Composite declined 0.3%, while the S&P 500 was down 0.4% and the Dow Jones Industrial Average was down 0.3% in afternoon trading after stocks surrendered all of their gains accrued during morning trade.

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