When value beats growth

Investing in growth stocks tends to work in emerging markets. But there was a short period this year when value investing was a better choice, says Michael Reynal, a portfolio manager at Sophus Capital (formerly called RS Investments). Sophus Capital sub-advises the Renaissance Emerging Markets Fund.

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Reynal explains, “For the last 12 months, growth and momentum metrics have worked overall in emerging markets. Although at the end of February and beginning of March, we saw cheaper stocks outperform relative to more expensive, higher-momentum stocks.”

That was because “the markets were preparing themselves for a pickup in growth,” and for higher interest rates, neither of which happened – hence the rotation back to a growth-investing orientation.

Read: Consider emerging market debt, equity

When the U.S. Fed does raise rates, says Reynal, it’ll be a bullish signal. “It’ll be because we’re seeing inflation and more growth coming into the U.S., and probably globally. That’s where you’ll likely see that value rotation [again].”

He finds the value space is dominated by cyclical names: commodity-linked stocks, materials, steel companies, industrials, and paper and packaging companies, all of which have “been beaten down over the last few years, following that initial surge from QE as growth remains anemic in the developed world, in particular.”

When rates rise, Reynal predicts, “we’ll see a number of more cyclical, commodity-linked stocks and economies [like Canada] rally on the back of that.”

Read: Choose India over Brazil

Nonetheless, he says growth “tends to outperform on a day-to-day basis; value outperforms quite dramatically and sharply on the whole.” And, until the economy improves, “we remain firmly anchored in the growth area, because we believe markets are rewarding sustainable, high growth today.”

When value does eventually rally, “it means the market is betting growth is picking up, and is putting money into those higher-beta, more volatile cyclical stocks that have been sold off so aggressively over the past few years.”

Read: Will global markets outpace the U.S.?

Value works in China

Reynal says value performs well in China. “Both the A-share (domestic) and the H-share (Hong-Kong listed) markets have been moving rapidly upward. Cheap stocks are outperforming expensive stocks.”

That’s because “people continue to chase value, mainly because the market is so expensive, and it does worry me. It’s reflecting the very high multiples in domestic China.”

Read:

Why China’s growth may drop to 6%

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Melissa Shin

Melissa is the editorial director of Advisor.ca and leads Newcom Media Inc.’s group of financial publications. She has been with the team since 2011 and been recognized by PMAC and CFA Society Toronto for her reporting. Reach her at mshin@newcom.ca. You may also call or text 416-847-8038 to provide a confidential tip.