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Why value is better at taking market beat-downs
For critics of value investing, the corollary goes that beaten up stocks get even more beaten up during big market drawdowns and take longer to pick themselves up again.
But is that really true? Well, it’s true that they get more beaten up, according to John Flynn, co-portfolio manager on Pzena’s US equity strategies, but it’s not true that they take that beating sitting down.
“They’re already unloved and there’s some controversy around them, and then we’re layering on a bigger fear from a macro standpoint and those stocks tend to go down more,” Flynn told the PzenaPerspectives podcast. “If you look at the performance of value and try to quantify that, that underperformance is about 450 basis points.”
“But then for value it takes about 7.5 months to get back to where you started. For the broader market it takes, on average, 14 months – almost twice as long. Value goes down further but comes back much faster.”
Which is all well and good if you merely want an investment to be worth what it was before a macro haymaker sent it crashing to the floor. But value stocks don’t just dust themselves off – they come back swinging.
“What’s really interesting is that five years out, if you look at the most expensive stocks you’re up 25 per cent on average. If you look at the broader universe, you’re up 35 per cent. Value-light – they’re up 65 per cent. But for the value strategy, you’re up 95 per cent – almost three times the market return from the peak. It’s not just that things recover faster, it’s that they continue to outperform coming out of it.”
Part of the reason the myth of value’s underperformance persists is perspective – or rather, a lack of it. Increased availability of data has the effect of focussing investors’ attention on the short-term. Looking at the one-year performance of the ACWI you’ll get years where you’re up 50 per cent and years where you’re down 70 per cent.
“You could drive a boat through those returns,” Flynn said. “And I think the thing that gets reinforced is that as you expand that time horizon the dispersion of the returns contracts. If you take a 10-year horizon, the range for the ACWI is 2 per cent on the low side, annualised, and 25 per cent on the high side – taking out those big swings and getting that positive effect.”
“If you think about value investing and the standard deviations converging, it’s important to have that long time horizon to get the benefits of a value strategy and not let any period where you might have a bigger loss and a shorter time horizon skew the results.”
