With a rough 2020 year-to-date, value investing’s recent poor performance follows over a decade of underperformance, leaving many to ask if it’s still relevant, according to a new white paper by Mercer.
Between 1927 and 2008, the average annual value premium was 5.5 per cent, but since then results have been lacklustre. In the 2010s, the average annual performance of the Fama and French value factor was negative 2.6 per cent.
“Earnings today are likely to be less reliant on capital than in the past, which could justify the high (relative to history) price-to-book ratios we have seen recently,” the paper said. “Low interest rates increase the value (in today’s terms) of future earnings via lower discount rates, which supports higher valuation multiples for companies with high growth expectations. Lastly, the impact of falling oil prices, and converse positive outcome for low-carbon investments, may also point to structural challenges for value investing relative to growth.”
Despite the unsupportive macro environment, Mercer’s paper noted it still believes value equities have a home in well-diversified active equity portfolios and data from past recent crises suggests a speedy recovery would be beneficial for value investing. “Analysis from StyleAnalytics looking at the 1987 crash, the tech bubble and the financial crisis shows that, coming out of each crisis, value factors performed better than growth, quality, momentum and low-volatility factors. This potential to perform when other factors do not is a large part of why we continue to support an allocation to value equities as a diversifying source of excess returns.”
While the paper argued value investing remains relevant, it also suggested investors consider the challenges these investments may face in the period ahead. In a time of extended economic uncertainty, investors should take a fundamental and more selective approach to value with a long-term view, said the paper. “Broader, systematic approaches to value, on the other hand, continue to bring diversification to a broad equity portfolio and have the potential to benefit most in a quick, sharp recovery if they capture high risk opportunities that may have been in jeopardy during a sustained downturn.”
Overall, Mercer advised investors not to give up on value, review their total portfolio exposures and their value managers and consider that the current environment may favour more judgmental approaches.