Broadening Value Rotation – Value-style equities to resume its uptrend; here are 4 reasons

The key question for investors is — can Value stocks resume its uptrend? In our view, both macro and fundamental drivers remain in place for a continuation and broadening of value outperformance over the medium term.

1)First, value-style equities benefit from a reflationary macro-environment. We expect India’s GDP growth and inflation to be above trend in FY 2023.

Faster rate hikes by the Reserve Bank of India (RBI) and the US Fed are likely to keep bond yields elevated in H2 2022 with growth remaining steady and borrowing costs still low.

These catalysts provide tailwinds to Value sectors as they are positively correlated to rising growth and increasing yields.

2)Second, valuation and earnings remain supportive of value-style equities. Value stocks trade cheap relative to growth stocks on various valuation metrics (e.g., MSCI India Value Index trades at a 12-month forward P/E of 15x compared to 26x for the MSCI India Growth Index).

Further, value stocks have demonstrated greater earnings resilience, with superior earnings delivery over the last year compared to growth stocks.

More importantly, both future earnings growth expectations and upward EPS revisions for value stocks continue to outpace growth stocks.

3)Third, sector positioning favours value-style equities with MSCI India Value Index having a greater weightage to cyclical sectors like Information Technology, Financials, Consumer Discretionary, and Materials compared to MSCI India Growth Index, which has a larger weight to growth sectors like retail-focused Financials, Energy and Consumer staples.

A reflationary macro environment, favourable valuations and superior earnings delivery are likely to benefit cyclical sectors.

4)Fourth, investor positioning is still light. Notwithstanding the strong outperformance of value-style strategies over the last few years, growth or a blend style investing remains dominant among major mutual fund categories.

Further, value and contra funds, have seen muted inflows compared to other categories. Overall, this indicates that value stocks are still broadly under-owned compared to growth stocks.

In our view, the above conditions are conducive for a further deepening of value rotation to financials, industrials and public sector enterprises (PSE’s).

Financials are likely to benefit from stable growth expectations, likely uptick in credit demand, a benign stressed asset outlook and still low credit costs. Higher interest rates are an additional tailwind for the sector.

Industrials remains another preferred sector on investment-led economic rebound, superior earnings expectations, and structural tailwinds from government policy support. Lastly, PSEs could see significant value unlocking on greater financial leverage, large cyclical tilt and significantly below-average valuations.

Conclusion:

In conclusion, though we believe value outperformance could broaden in 2022, equity markets have transitioned to ‘mid-cycle’ with monetary policy likely to get tighter driving higher volatility and more modest equity returns.

Thus, it would be prudent for investors to raise allocation to value strategies within a diversified equity allocation.

(Saurabh Jain, Head, Wealth Management, Standard Chartered Bank, India and Vinay Joseph, Head, Investment Products and Strategy, Standard Chartered Wealth, India)

(Disclaimer: Recommendations, suggestions, views and opinions given by the experts are their own. These do not represent the views of Economic Times)