The past three months have seen value stocks outperforming growth stocks by the biggest margin in 10 years, a strong indicator that big changes in market leadership are already under way. A closer look at the U.S. stocks driving the Russell 1000 Value Index higher uncovers two sector-based investment trends, one likely more sustainable than the other.
The accompanying chart compares the performance of growth and value stocks and highlights the sharp change in trend that began in September. The data show the level of the Russell 1000 Growth Index divided by the Russell 1000 Value Index; a rising line indicates the outperformance of growth stocks. (We’re only looking at trend here, the values on the Y-axis aren’t relevant in isolation.)
Value stocks held their own relative to growth stocks for the early half of the past decade (indicated by the flattish segment of the line on the chart) but that changed in late 2016. The rising line after that point indicates outperformance by the technology-heavy growth index and this trend intensified at the end of 2019 – the steep climb on the chart between January and September of this year underscores the dramatic outperformance by growth companies.
Since the beginning of September, the Russell 1000 Value Index has outperformed the Russell 1000 Growth Index by more than nine percentage points. The trend of growth stocks’ outperformance has at least stalled.
I looked at the top 30 performing stocks in the value index over the past three months – shown in the accompanying table – to uncover sector-related trends. Luxury goods providers were the clear winners.
Capri Holdings Ltd. Capri, owners of the Jimmy Choo, Versace and Michael Kors brands, topped the list with a 118-per-cent jump since the end of August. Tapestry Inc. Tapestry (Coach, Kate Spade) and COTY Inc. COTY (Burberry, Calvin Klein, Gucci) were close behind with returns of about 95 per cent.
These stocks were deeply oversold during the depth of the pandemic – very few people needed to signal financial success with designer clothing or bags while quarantined at home – and the stock prices recovered quickly as lockdown conditions eased. Growing revenues from Asia, where COVID-19 was contained first, also helped these companies.
How much is left for the rally in luxury stocks is an open question. Capri Holdings, for instance, looks inexpensive at 12.7 times forward earnings estimates, but a second wave of coronavirus infections is under way in much of the developed world and shopping sprees could be delayed. More employees continuing to work from home could also limit demand.
The sharp recovery in financial stocks is more interesting, particularly as it applies to Eaton Vance Corp. Eaton and Invesco Ltd. Invesco. Eaton Vance soared 65 per cent as Morgan Stanley acquired the asset manager in October at a big premium to the stock price at the time. Invesco has climbed 59 per cent over the past three months thanks to activist investor Nelson Peltz, whose fund divulged a major stake in the company.
Takeover activity is one of the most concrete signs of undervalued stocks. In the case of Eaton Vance, Morgan Stanley put almost US$8-billion behind their assessment that the company was worth much more than the market did at the time. Mr. Peltz is clearly convinced that Invesco also had far more profit potential than was reflected in the stock value when he began buying his stake.
When smart money investors find financial stock prices too low to ignore, it seems likely that more value opportunities are available in the sector. For this reason, U.S. financials are likely a more promising investing theme than luxury goods as the rally in value stocks continues.
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