Broadly speaking there are two approaches for selecting stocks. First, buy the shares of companies that look cheap, which is labelled Value investing. Second buy shares in companies that are growing rapidly, which is labelled Growth investing.
There are long periods of time where one investment style performs strongly while the other lags. Take for example the last decade, Growth stocks have performed very well. Think global internet powerhouses like Facebook, Amazon, Netflix and Alphabet; these stocks soared while the unloved old economy, Value stocks have languished.
The chart below attempts to illustrate this point. It plots the MSCI Value divided by the Growth index since 1975. A reading above 1 indicates that the Value index has outperformed the Growth index, and in periods where the blue line heads north this indicates that the Value index has enjoyed stronger performance than the Growth index.
The strong performance of Growth stocks over the last approximately 14 years is illustrated by a steady decline in the blue line from 2.5 all the way back to 1.3. The key thing to note from this chart is that Value stocks are unlikely to continue to perform poorly indefinitely. Over the last 45 years, both investment styles have enjoyed periods of strength – the blue line has gone up as well as down.
The recent bounce in global share markets following the sharp Covid-19 sell-off has until recently been largely driven by the mega-cap tech companies. This is not particularly surprising. These companies have built an impressive track record of growth over the last decade, are well-positioned to continue to build that track record and importantly are less affected by the current crisis.
For the rally to continue it became increasingly probable that old economy Value names would need to participate. The valuation differential was becoming too stretched and the lack of breadth (the number of companies participating in the rebound) suggested that the rally would either peter out or broaden. We use suggested because this type of rotation is not easy to pick in advance and is by no means a certainty.
Our approach at Generate is to include some old economy, Value exposures in our portfolios as well as the likes of Microsoft, Alphabet and Alibaba. This provides an additional level of diversity. A good example of this approach is the Platinum Fund.
Platinum has a fantastic pedigree. It was founded in 1994 by Kerr Neilson and a number of key members from his previous team at Bankers Trust. Platinum’s investment style is best described as contrarian, they argue that great businesses do not always make great investments, because their share prices can be too high. Instead Platinum looks for companies that are currently out of favour, as unpopular industries/geographies with obvious problems can often be a rich source of investment opportunities. They note that the market is not silly, there usually are real issues, but the key is understanding whether this is an opportunity or a threat.
This team had built an exceptional track record at Bankers Trust and this has continued at Platinum. Since inception in 1995 the International Fund has appreciated by 11.7% per annum which is almost double that of its benchmark index. This outperformance has not been consistently achieved. As a true Value manager Platinum has lagged the market for extended periods of time (for instance the first five years during the tech market boom in the late 1990s and the last decade has seen lacklustre returns).
It is very difficult to know whether the recent uptick in old economy, Value stocks will continue, but with exposures such as Platinum and Berkshire Hathaway the funds are positioned to take advantage of it.