The comfort zone. Stocks had a mixed close yesterday as investors sought comfort from old friend technology. A notable pivot back to growth from value left investors wondering if the trend would continue.
N O T E W O R T H Y
What’s old is new… again. Just when you thought it was safe to crown value stocks the new leader of the stock market, growth stocks roared back to snatch victory. Growth stocks have dominated the news and major indexes for quite some time. They have also dominated the investor psyche. People are fascinated by interesting, shiny technology and social media. Let’s face it, you are much more likely to hear someone talking about a cool new gadget then you are to find a group of partiers riveted by a cast aluminum aircraft part. Not that any of us have attended any parties for the past eight months anyway. Beyond the wow effect, many of the companies that produce these cool goods and services actually deliver… growth. To be clear, a growth company does not necessarily have to be in the technology or communications sectors. There are actually growth companies in all sectors, but the most well-known ones happen to fall in those two sectors. To be considered a growth company, a candidate must deliver extraordinary actual earnings and revenue growth and demonstrate the potential to continue that growth into the future. For a growth company, it is not about the actual earnings, but rather more about earnings growth. Those companies typically don’t pay dividends as they are expected to plough back any profits in further innovation. Value stocks, on the other hand, are companies that are typically well-established with longer track records of success. Success for a value company is consistency in earnings. Earnings growth for a value company still exists, but it does not typically outpace the growth of the overall economy. Value companies rely on the strength of the economy which make them cyclical in nature… like the economy. Because these companies’ are not expected to grow fast, they typically pay dividends to incentivize investors. Starting back in the late 1970s, you will see that growth stocks outperformed value stocks, expanding rapidly with the dot-com bubble of the 1990’s. That outperformance collapsed with the popping of the bubble at which time value stocks took the lead, outperforming in the lead-up to the financial crisis after which both styles performed the same throughout the recovery until 2015, when growth took the lead once again. Growth never looked back and, in fact, it opened up a lead that far exceeded the one it enjoyed in the dot-com bubble. In investing, we have a concept called “reversion to the mean”. The term is used widely, but it typically refers to a relationship of two types of similar investments. Daily shifts in demand combined with market volatility cause the paths of the investments to deviate from their normal relationship. Typically, the relationship between the investments eventually return to normal, that is, they revert to the mean. In the case of growth versus value, historically, they trade on similar paths growing and shrinking with the overall stock market. Occasionally one will outperform for a period of time, but ultimately, the two return to their normal relationship. Mechanically speaking one investment gets too expensive relative to the other, so investors ultimately shy away from the overpriced investment and gain interest in the underpriced one. That shift in demand ultimately causes the relationship to return to normal. Ever since growth opened up its lead over value in 2015, analysts have been expecting that shift, or normalization to occur, and not only has it not happened, but the lead has widened… significantly. If we look at the current year, we see that both growth and value fell when the markets dipped in March. As one might expect, value fell more than growth as value companies are more economically sensitive. Since then, growth has not only recovered, but found new all-time highs, while value still remains around -6% below its all-time highs of late February. Growth is now around +18% higher than it was at its pre-pandemic high. Beginning last week, value stocks began to experience a rise as investors began to invest in an economic recovery (reflation) and the Pfizer news on Monday caused value shares to outperform significantly. Could it be the beginning of a reversion to the mean? With growth shares appearing so expensive and value stocks having been beaten down in the pandemic, maybe. But as we witnessed in yesterday’s session, investors appeared to pivot back to growth with the tech sector leading the rise. Everyone loves a bargain and with tech shares having been beaten down on Monday and Tuesday, traders just couldn’t resist the opportunity to buy the dip… just as they have been since 2015.
THE MARKETS
Stocks had a mixed close yesterday as investors clamored back in the tech stocks which were beaten down at the beginning of the week. With the election out of the way investors have turned their focus back on the pandemic, and while we are making progress on the vaccine front, the pandemic is far from over leading investors to jump back into their lockdown favorites. The S&P500 rose by +0.77%, the Dow Jones Industrial Average lost -0.08%, the Russell 2000 Index was unchanged, and the Nasdaq Composite Index advanced by +2.01%. The bond market was closed for Veteran’s Day.
NXT UP
- CPI Excluding Food and Energy (Oct) is expected to have grown by +0.2%, same as September.
- Initial Jobless Claims (Nov 7) may come in at 731k, slightly lower than last week’s 751k.
- Continuing Jobless Claims (Oct 31) is expected to be 6.825 million compared to the prior week’s 7.285 million claims.
- Jerome Powell will speak today at an ECB forum with his EU counterpart Christine Lagarde. Chicago Fed President Charles Evans will also speak today.
- This morning GoodRx and Fluor missed estimates while Fluor and Schrodinger beat. After the bell, we will hear from Walt Disney, Palantir, and Cisco.