The Gulf Today - Business - - SPECIAL REPORT -

NEW YORK: One un­de­ni­able fact has un­der­pinned the lat­est leg of the long-run­ning US bull mar­ket: pay­ing up for growth stocks at any price paid off, hugely. Pay­ing a pre­mium for shares of fast-grow­ing com­pa­nies like Amazon Inc and Google par­ent Al­pha­bet Inc over those viewed as good value for the money has been a recipe for suc­cess for more than five years. Growth stocks have beaten their value ri­vals by a mar­gin of more than two-for-one in that span. Un­til now.

In the last month, the wheels have fallen off that profit ve­hi­cle. The Rus­sell 1000 Growth Index, which fea­tures stocks that trade at high prices rel­a­tive to their earn­ings, has sunk more than 10 per­cent so far in Oc­to­ber, its poor­est per­for­mance since the fi­nan­cial cri­sis. In that same pe­riod, the Rus­sell 1000 Value Index is down just 7 per­cent. That shift was cast into sharp re­lief last week af­ter ma­jor rev­enue short­falls re­ported by both Amazon and Al­pha­bet trig­gered the largest drops in their stock prices in years. Nas­daq, stacked with growth names from the tech sec­tor in par­tic­u­lar, is in a full-fledged cor­rec­tion – the term for a fall of at least 10 per­cent from the most re­cent peak.

Head­ing into the month, the gap in per­for­mance be­tween the Rus­sell’s growth and value in­dexes hit the widest level in at least 40 years. Pre­vi­ous in­stances of such a widen­ing led to a come­back in value stocks, which in­clude names such as Jpmor­gan Chase, Exxon Mo­bil and John­son & John­son , and has fu­eled ro­ta­tion spec­u­la­tion.

“When the ro­ta­tion started to go back the other way, sort of re­ver­sion to the mean, value went on to out­per­form growth for sev­eral years. It was a long­stand­ing re­ver­sion-to-the-mean kind of a trade,” said Phil Or­lando, chief eq­uity mar­ket strate­gist at Fed­er­ated In­vestors, in New York.

The S&P 500 is now down about 9 per­cent from its Sept. 20 high, with some of the year’s best­per­form­ing and heav­ily weighted sec­tors, such as tech­nol­ogy and con­sumer dis­cre­tionary, con­tribut­ing to the de­cline.

Both of those sec­tors have fallen for three straight weeks and in­clude growth stocks such as Amazon, and Al­pha­bet, lead­ing some mar­ket par­tic­i­pants to be­lieve a full-blown ro­ta­tion into value stocks is un­der way.

Tech­nol­ogy ac­counts for a weight­ing of nearly 35 per­cent in the Rus­sell 1000 growth index, fol­lowed by an 18.8 per­cent weight­ing in con­sumer dis­cre­tionary, ac­cord­ing to Ft­serus­sell data.

Even with the re­cent down­turn, growth stocks re­main ex­pen­sive on a for­ward price-toearn­ings ra­tio ba­sis, mak­ing the ar­gu­ment for value stocks more per­sua­sive given in­vestor con­cerns that have fu­eled the sell-off.

Steve De­sanc­tis, eq­uity strate­gist at Jef­feries in New York, said there are sound rea­sons to own value stocks now. “We are start­ing to see earn­ings ac­cel­er­ate faster for value than for growth, and if GDP is go­ing to be north of 3 per­cent, we should see a pretty good earn­ings back­drop,” De­sanc­tis said. Third-quar­ter gross do­mes­tic prod­uct re­ported on Fri­day came in at a 3.5 per­cent an­nu­al­ized growth rate. Still, ques­tions re­main over whether the shift to value will be a full ro­ta­tion as the bull mar­ket en­ters its late-cy­cle stages, or merely a tem­po­rary de­fen­sive play dur­ing a sell­off, sim­i­lar to what hap­pened ear­lier this year when the S&P 500 tum­bled into cor­rec­tion ter­ri­tory in Fe­bru­ary. One thing dis­tin­guish­ing the cur­rent environment from ear­lier this year is that the Fed­eral Re­serve seems more de­ter­mined than pre­vi­ously to keep press­ing in­ter­est rates higher, said Ju­lian Emanuel, chief eq­uity and de­riv­a­tives strate­gist at BTIG, in New York. That has re­sulted in higher yields on U.S. Trea­sury se­cu­ri­ties. “In­vestor psy­chol­ogy has shifted to the idea that longterm yields are ris­ing. When that hap­pens it’s an im­plicit neg­a­tive for high-mul­ti­ple stocks, which tend to re­side in the growth cat­e­gory,” Emanuel said. Along with the Fed’s rais­ing rates, in­vestor con­cerns have in­cluded a slow­ing China and a stronger dol­lar, which in turn hurts emerg­ing mar­kets and cor­po­rate earn­ings for large multi­na­tional com­pa­nies. “The Fed is say­ing we are mov­ing ahead, steady rate hikes. That in the face of the weak global is­sues is what has peo­ple spooked and what has value out­per­form­ing,” said Alec Young, man­ag­ing di­rec­tor of global mar­kets re­search at FTSE Rus­sell in New York. Still, in­vestors may be miss­ing out on gains by mov­ing too heav­ily into value now, should the pen­du­lum swing back be­fore the cy­cle starts to end. Not all mar­ket par­tic­i­pants are con­vinced the end is near for growth stocks. “If you think value’s go­ing to out­per­form, you’re think­ing more at the end of the cy­cle,” said Scott Wren, se­nior global eq­uity strate­gist at Wells Fargo In­vest­ment In­sti­tute in St. Louis, Mis­souri. “As far as con­sis­tent mean­ing­ful out­per­for­mance by value, that’s not go­ing to hap­pen un­til we’re half­way through the next re­ces­sion.”

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