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What’s Driving a Big Trend in the Stock Market

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Think of some of the famous twosomes from movies or TV: Batman and Robin, Thelma and Louise, Bert and Ernie, or Butch Cassidy and The Sundance Kid. Not to be outdone, the stock market has its own version of a dynamic duo – growth stocks and value stocks. And there’s an interesting trend that’s happening between these two groups lately, as value stocks have come back into favor after years of being overshadowed by growth stocks.

But let’s rewind a bit and review what that actually means. (Feel free to skip ahead if you’re good on the basics). 

One classic way to look at the stock market is by dividing it into two groups: growth stocks and value stocks. What does that mean? As the name suggests, value stocks are those that are a good value, relative to peers, based on fundamentals like earnings, dividends or revenue. By contrast, growth stocks are expected to appreciate in price at a faster rate than the overall market. 

In the wake of the global financial crisis more than a decade ago, growth stocks performed better than value stocks. But in October 2020, our friends in Goldman Sachs Research suggested that it could be “time for value.”

Fast forward, and that shift from growth to value has indeed transpired. Year to date through late May, value stocks in the S&P 500 were up more than 16%, compared with less than an 8% gain for the growth stocks in this index. And in fact, investors’ preference for value stocks is currently a big trend in the market, as Lou Miller of Goldman Sachs Global Markets, explained in a recent episode of The Daily Check-In. Here’s what you should know: 

Why value stocks are trending

The start of a new trend (like, say, the return of mullets) can be really interesting because inevitably, someone somewhere decided to forego the status quo and try something new. As for why value stocks are in vogue right now, the economic recovery since the worst months of the pandemic is part of the reason, according to Miller. 

The reopening of the US economy is welcome news, but it’s also led to higher interest rates and higher commodity prices. In turn, this makes value stocks more attractive and explains why they’re performing better than growth stocks, Miller says.

Value-style stocks have been particularly sensitive to vaccine expectations.

And a couple more reasons help to explain the resurgence of value stocks this year, as our friends in Goldman Sachs Asset Management outlined in a recent report:

  • Earlier this year, value stocks were trading at “a deep discount” compared to growth stocks. In fact, it was the biggest difference between the two groups since the early 2000s. History suggests when that differential is so wide, then value stocks could subsequently outperform growth stocks.
  • Value-style stocks have been particularly sensitive to vaccine expectations. As the team noted in February, a vaccine “could provide a shot in the arm for these sectors.” 

How long will this last?

For now, Miller said he expects investors to continue favoring value stocks to growth stocks. “I think we’re definitely halfway through this trade,” Miller said. “But I don’t think we’re close to the end. I think there is still room for this rotation to continue.”

Just how long this rotation in the stock market will last is a bit tricky to forecast. It’s also made all the more difficult because it means predicting other things, like the pace of global growth and where interest rates or commodity prices are headed. (These are tough to forecast at any time, and the pandemic doesn’t make that easier.) 

And as for what could cause investors to stop favoring value stocks, Miller said some expectations – be it about the pace of economic growth or inflation or vaccine distribution beyond the US – just may not materialize. 

Growth, value and your portfolio

How might this trend impact investors? Well, it all depends on the types of stocks you own. Miller points to the sectors of the market that are seeing the biggest benefit from this trend include: 

  • Commodity-sensitive stocks, like those companies in the energy and materials industries
  • Companies that benefit most from economic growth and the reopening of the economy, such as in the industrials or consumer discretionary areas
  • And finally, companies in the financial services industry

While growth stocks are likely to come back into favor again, our friends in Goldman Sachs Asset Management say there’s “a strong case for balancing both styles in a portfolio.”

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