It’s always hazardous to make definitive predictions about what the future holds, but there are a few useful signposts to help investors form a view.
History offers some insight here, and can be useful in offering some context for the recent value rally. While research shows that such rallies have been shorter and sharper in the post-GFC world, the current rally in Asian markets has been modest even by these standards – in terms of both the length of the rally, and the level of outperformance by value stocks.
On average, value rallies in Asian markets since the GFC have lasted for approximately 14 months, and the average outperformance of value (relative to growth) has been 36 per cent. However, the recent value rally has lasted just seven months so far, and provided barely one-third of the outperformance, at 13 per cent. If history is any guide, the current rotation appears to have further to go.
Incorporating a longer time period to include the 10-year period prior to the GFC sees the average value rally last for 26 months and level of outperformance rise to 91 per cent. Arguably, this earlier period is particularly relevant for the current outlook for Asia, as it was a time of higher inflation and interest rates – similar to what we may see in Asia over the coming years. Irrespective of time period, if history is any guide, the case for value’s ongoing rally appears to be strong.
But it’s not just history that can give us some clues about the outlook for value. Another factor to look at is the dispersion in valuations across Asian markets.
The previous growth cycle was unique in a number of ways, and not least on account of the extraordinary divergence in valuation multiples between the value and growth cohorts.
Over the past 20 years, value stocks have traded at an average 40 per cent discount to growth stocks, but by late 2020 this had widened to a 70 per cent discount. The subsequent rotation to value has been modest at best, with valuation spreads currently only back to where they were in February 2020, at 64 per cent.
While there is no doubt that a belief in any kind of “reversion to mean” has been severely tested by markets in recent years, it would be dangerous to assume that the next decade will look like the previous one.
Such an assumption relies on ever-expanding multiples, from already extreme levels, which seems very improbable – particularly as Asian economies reopen and vaccination programs gather pace. This reopening dynamic is likely to see earnings growth become more widespread than in the previous decade, reducing the growth scarcity premium (and extreme valuation dispersion) that has been a feature in recent years. We believe this will provide an ongoing tailwind for value over coming years.
We therefore believe that value’s rotation has plenty of room to run in Asia. The market dynamics remain very favourable, while the extreme valuation dispersions seen in 2020 have barely been addressed, and still have a long way to go. With modest starting valuations in absolute terms, the outlook for value in Asian equities is bright.
Will Main, portfolio manager, Asian equities, Maple-Brown Abbott
