Traders at the New York Stock Exchange (NYSE), May 19, 2021.
Is the large value rotation complete?
The S&P 500 is at an all-time high, but investors who earlier this year overweighted their portfolios in reopening stocks like Caterpillar and banks, and away from tech stocks and other growth stocks, appear to be rethinking that strategy.
Many companies associated with the “reopening” of the trade peaked in April or early May:
Now, a final stage of so-called “value” trading is also cracking this week: banking.
Instead, investors have started to look to old-fashioned growth stocks.
Thursday saw new heights at Cisco, Alphabet and IBM. But perhaps more importantly, once heavily disgraced speculative growth stocks, many of which are associated with Cathie Wood’s ARK funds, have started to rebound.
What is happening?
The market narrative is changing. The first quarter scenario was that the reopening would be very strong, bond yields would rise and inflation could be an issue later in the year.
It was only partially correct. The reopening has been strong, but bond yields have fallen rather than risen as investors have come to believe 1) that inflation and supply chain problems may indeed be ‘transient’ or temporary, as ‘insisted the Federal Reserve, and 2) the second and third quarters are the best in terms of earnings and economic growth.
“Value trading is happening and growth bulls are winning,” Alec Young, chief investment officer at Tactical Alpha, told me. “Bond yields are a proxy for growth prospects,” he added, noting that bond investors expect moderate inflation and a slower rate of growth (although still positive) in the second half of the year.
The result: Investors stay in the market, but they turn to the defensive (health) and growth (technology). Once crowded trades like cyclicals and banking that are associated with “value trading” are now retreating.
Why would investors turn to growth stocks if growth is slowing?
“Value is a more economically sensitive sector as value is weighted towards industrials, energy, materials and small caps,” Young said.
“At the start of the business cycle, coming out of a recession, there is more leverage on the earnings of value stocks, so they are a better investment,” he added.
“The problem is, everything has been compressed,” Young said. “We entered a recession very quickly and came out of it quickly, in part because of all the stimulus. Growth stocks now offer more reliable growth and are less subject to the vagaries of the business cycle.”
In a recent note to clients, Ben Snider and David Kostin of Goldman Sachs agreed. “History, valuations, positioning and economic deceleration indicate that most of the turnover [from growth to value] is behind us, ”they said.
Because it was a “crowded” (overweight) business, Goldman suggested that many players are likely caught offside. “Mutual funds overweighted value to a greater degree than at any time in our eight-year data history,” they said. “Hedge funds remain growth oriented, but this tilt has recently fallen sharply and is now at its lowest for more than five years.”