Monday February 22nd was a great day for Ali Motamed, but a bad day for most investors. While the popular, technology-driven Nasdaq 100 index fell 2.6% and the
S&P 500 index
down 0.8%, Motameds
The fund rose 5.8% as it bet against popular tech stocks and unpopular value stocks.
That’s right – battered value stocks are finally winning. Both
Russell 2000 Value Index
the smallest, cheapest stocks and the
Russell 1000 Value Index
of the largest this year outperform their Russell growth counterparts by more than 10 percentage points. And this time around, after numerous head fakes – including a one-day spike in tech stocks this week – the comeback seems to be real.
“We still have one of the largest valuation spreads between value and growth stocks that we have ever had,” says Motamed. This, along with the promise of fiscal stimulus, has driven value stocks, which are generally weaker, more cyclical, or more economically sensitive than growth stocks. Consequently. Motamed’s value-oriented fund (ticker: BIVRX) is this year’s No. 1 fund in the Morningstar Long-Short Equity category with a return of 26%.
How big is the valuation gap? That depends on what metric you are using. The most traditional is price-to-book value, which studies a company’s hard assets. That
Russell 3000 Growth Index
had a P / B of 11.1 versus the end of January
Russell 3000 values
P / B of 2.5. In the past, value managers looked to companies that were trading below book value for bargains. The valuation spread is currently at the “highest level of  Tech bubble levels, ”said Rob Arnott, founding chairman of Research Affiliates, which manages $ 153 billion. “So I see this as the first big step on what is probably a long way back into performance.”
However, book value does not measure technology companies well because they often have few physical assets. Another metric is the Shiller price-to-earnings ratio, which normalizes or smooths out earnings for stocks in proportion by averaging it over the past 10 years. U.S. large-cap stocks have an aggregate P / E of 35.5 shillers, a valuation not seen since their high of 44 during the 1999-2000 tech bubble. US value stocks have a Shiller P / E of 21.6 and growth of 46.8. “When you look at a Shiller Earnings Ratio, growth is insanely expensive and cheap compared to the market,” says Arnott, “but not cheap by its historical norms.” He says that value- Stocks fall 5% and need to grow 50% to reach fair value according to historical norms.
For this reason, Arnott prefers foreign stocks, and especially emerging market stocks, which are generally cheaper than US stocks. Emerging market value stocks have a P / E of 10 shillers. “I have about half of my cash in emerging markets with high value,” he says.
But someone like Motamed can play off the spread on valuation by going into gold mining stocks like Long Value
(KGC) and short tech stocks like
(LOAD). “I can buy gold [miner] Shares that in many cases are not in debt [zero debt] or be discharged with enormous cash flows well below book value, ”he says.
“Apple is just a misrepresentation of a growth company,” says Motamed, referring to earnings before interest, taxes, depreciation and amortization, or Ebitda for short. “If you look at Apple’s Ebitda, in 2015 it was $ 82 billion. Last year it made $ 86 billion to Ebitda. That’s a 1% growth rate. They have saturated their market. ”
Some value-minded managers have a more nuanced view. Chris Davis, Chairman of Davis Advisors and Manager of
(SLADX) says there is a difference between what he calls “growth vehicles”, like
(GoogL) and speculative tariff. Google, he says, has “incredible opportunities to generate money” and a dominant position in search engines that can hardly be suppressed.
What Davis wants in growth stocks is proven cash flow generation, not expected cash flows over the next several years. The distinction between current growth and expected growth is important now because it is not just the promise to drive cyclical value stocks up, but rising interest rates that drive high-priced growth stocks down. The stimulus expected from Wall Street will lead to inflation, making low-yielding bonds less attractive, with 10-year government bond yields now at 1, after hitting a low of 0.5% last year. 5% lie.
Companies with high ratings like
(TSLA), with a forward P / E of 172, have much of their earnings growth in the future and consequently have low earnings returns, which is the opposite of their P / E – 0.6% in the case of Tesla. These returns are less favorable compared to bonds with each rate hike. “Growth stocks are stocks with longer duration,” said Scott McBride, manager of
Hotchkis & Wiley Large Cap Value
(HWLAX) “Your cash flows are further ahead. A change in interest rates has a greater impact on the price, just as it has a greater impact on the price of long-term bonds. ”Bond prices move inversely with interest rates, and long-term prices are more sensitive to interest rates.
In addition, traditional value sectors can benefit from rising interest rates, particularly banks, which can increase the profit margins on their loans by charging higher fees when interest rates rise. Meanwhile, inflation should drive higher prices for hard-asset-based energy, gold mining, and real estate stocks.
However, some managers believe the reversal will be temporary. Mitch Rubin, managing director of
RiverPark Long / Short Opportunity
(RLSFX), who favors growth stocks, says rates were so low to begin with that what is happening now is really a “period of stable rates normalizing.” Long-term bond rates below 5% are generally good for growth companies that can borrow cheaply and expand, he says.
Rubin owns Apple and other stocks that Motamed is selling short. “We don’t think Apple is done as an innovator,” he says. His fund is only up 1.8% this year but has beaten every other long / short fund in the past five years.
The question is whether he or Motamed will win in the next five years.
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