We are firmly in a global economic recovery. Our research shows that for the last 50 years, value shares have staged a strong performance, closing the gap with growth shares, during economic recoveries. The expectation now, as economies emerge from a global COVID-induced recession, is that value will continue to outperform.
We anticipate the best returns are to be had in the UK and that UK value stocks could double in price over the next decade, with the lion’s share of performance likely to occur during the economic recovery now underway. That prospect is far better than the average diversified portfolio that will struggle to keep pace with inflation in this low-yield world.
The forecasts from our Asset Allocation Interactive at the end of April indicate that the broad equity market in the UK will likely deliver a 6.5 per cent annual return over the next decade, beating out the Australian and European equity markets at 5.4 per cent and 5.0 per cent per annum (p.a.), respectively. The US market still looks to be a poor investment, likely eking out only 0.6 per cent p.a. over the next decade, trailing inflation by a handsome margin.
The US and Australia have led the global recovery, but for different reasons. The US needed to get back to work as most employees do not get paid if they don’t work. The stimulus checks some received were not targeted at the affected, but aimed at stimulating the economy. The US worker returned to work because they had no choice.
In Australia we have successfully achieved a coronavirus-elimination strategy and have been able to return to growth mode based on isolating our island nation. Regardless of the method, the US and Australia have emerged strongly from recession.
One of the most prominent recovery laggards is the UK. During the last quarter of 2020, the UK was dealing with Brexit and a particularly nasty strain of COVID, while the rest of us have been talking vaccines and stimulus strategies. This matters! At the end of 2020, our research shows the probability that Australia and the US were in a robust recovery was 72 per cent and 90 per cent, respectively. The prospect for the UK was only a coin toss at 50 per cent.
What does history tell us about recoveries? By looking at data back to 1972 across six regions (Australia, Europe, EM, Japan, UK, and US), our research shows that the broad equity market has historically done well, delivering an average return of 9.1 per cent p.a. above the cash rate. Small-cap securities have added an additional 8.1 per cent p.a. over this. We also find that value stocks, the cheapest securities based on a metric such as book value or earnings, outperformed the most expensive stocks, labelled as growth shares, by 6.1 per cent p.a.
At the trough of the equity market nearly a year ago, markets were priced as if half of the cheapest companies would go bankrupt. That is, we could have seen half of the securities prices fall to zero and still get a superior return on the rest of the index. That might have happened, and it would have been a Great Depression-like event, but it didn’t. In the new order of cheap money nothing seems to be held to account.
We might all be late for investing in broad equity markets or small-cap securities, but value securities are still cheaply priced. The poor performance that caused many investors to abandon value over the last decade will be slow to return. Momentum traders, investors who invest in what has done recently well, are now lined up to re-enter the value factor, which is showing amazing results.
Value stocks have rallied significantly off their lows of last year, beating their broad market counterparts in all major markets. For the seven months ending 30 April 2021, Australian value stocks returned 39 per cent, beating the broad market, which returned just 24 per cent. US value stocks delivered 22 per cent versus 16 per cent for the broad market. In Europe, UK, Japan, and the emerging markets, value stocks returned 23 per cent, 27 per cent, 12 per cent, and 22 per cent, respectively, beating their respective broad markets, which returned 17 per cent, 20 per cent, 7 per cent, and 16 per cent, respectively.
What a difference a year can make! The much-touted death of value investing has turned out to be the point of best entry. The global economic recovery is underway, and we should invest as such.
Source: Research Affiliates, LLC, based on data from Factset. Note: For each of the regions, the market (cap-based) index and value index are as follows: Australia - MSCI Australia (Net), MSCI Australia Value (Net); US - S&P 500 Index, S&P 500 Value; Europe - MSCI Europe (Net), MSCI Europe Value (Net); UK - MSCI United Kingdom (Net), MSCI United Kingdom Value (Net); Japan - MSCI Japan (Net), MSCI Japan Value (Net); and Emerging Markets - MSCI EM (Net), MSCI EM Value (Net).
Mike Aked is Research Affiliates’ director of research for Australia