Following a long period of outperformance for growth, value has had a strong resurgence. In this video, Bill Heaphy, CFA, a portfolio manager and head of William Blair’s U.S. value equity team, breaks down why he believes the current value cycle still has room to run; the outlook for small-cap value stocks; and which sectors he believes provide interesting value opportunities right now.
Watch the video or read the recap below.
Why has value made a comeback recently, and why have we seen the rotation from growth to value in the markets?
Value’s been outperforming at least in the small-cap arena for the better part of 18 months. Before that, we had a long, pronounced period of growth outperformance, actually, a record high, if you look at the trailing 10 years going back to conditions that existed during the tech bubble.
I think there are two reasons for that. One, as we came out of the financial crisis in ’08 and ’09, we had muted, below-potential economic growth.
And so, growth was very scarce. Any cyclical stocks didn’t have much of a tailwind, and therefore, I think people did gravitate more towards growth.
If you look back historically, these value/growth cycles can be somewhat long. So, I think the value cycle does have some room to go.
And I think probably the second and most important reason is that we had a prolonged period of zero or near-zero interest rates. Certainly, real rates on inflation-adjusted [assets] were in many cases negative.
So, that creates a lot of cheap money. Companies or investors are willing to invest in companies where profits were very far in the future, which they call now long-duration equities.
I think it’s those two things that set up a period of outperformance. But I think if you look back historically, these value/growth cycles can be somewhat long. I’ve probably been in my career through three of them at this point. So, I think the value cycle does have some room to go.
What’s your outlook for small-cap value stocks?
I think small-cap value stocks are very attractively valued right now.
If you look at the small-cap value benchmark, it trades at around 13 times this year’s estimates, which is a significant discount to small-cap value’s longer-term average, and even more so to large-cap stocks and small-cap growth stocks. So, we’re trying to find stocks where that’s already discounted the valuation.
What sectors are you seeing the most opportunity?
We have a bottom-up process, so I think in most sectors we’re able to find interesting valuation opportunities, particularly in the consumer area and the industrial area.
We have a bottom-up process, so I think in most sectors, we’re able to find interesting valuation opportunities, particularly in the consumer area and the industrial area.
Speaking to the consumer discretionary space, it’s interesting because the market has rapidly priced in a recession. So, where we’re finding opportunities in consumer are companies where the market has already priced in recessionary conditions. And we may or may not have a recession.
For example, we’ve invested in a major furniture manufacturer and retailer stock—very well-managed company, very healthy balance sheet, and has a great backlog right now. It’s been challenged a little bit with supply chain costs and materials inflation, but I think they’re going to get ahead of that in the second half of the year. And that stock trades at about 7 times earnings.
Given where small-cap value stocks are priced, I have a high level of confidence they’re going to outperform in whatever the environment is over the next 12 to 18 months.
William Heaphy, CFA, is the head of the U.S. value equity team.