When one charts the outperformance of Growth stocks vs. Value stocks, it is tempting for any portfolio manager to try and call the unwind of that trade to truly make a name for themselves, but it is a daunting venture and one that can force you to say goodbye to your career as well. To time the turning point of this trade is extremely hard; every time the market gets a bit of an unwind, it tends to get excited asking “is this it?” The Technology sector is an example of Growth stocks and Energy, Financials, Industrials, etc. are considered Value stocks, in today’s environment. Now how much an investor is willing to pay for that growth is debatable, as we are now in the “growth at any price” model.
The Nasdaq, or Nascrack in some circles, has some of its largest members, trading at PE’s of 100x plus. But then when one looks at the earnings per share growth rate, operating margins, amount of cash generated in the business and the growth, one sees it in a different light altogether. If you brush out your old CFA books, intrinsic value is defined as the expected dividend per share divided by the difference of cost of capital less the growth rate of that stock. By applying pure algebra, as risk free rate moves closer to 0, and the growth goes up and up, the intrinsic value can go up towards infinity. Of course, it does not mean that stocks can keep going up forever. But this is an exercise to understand the momentum behind these stocks and why their value is trending higher. We all know the Fed is not going to raise rates any time soon, in fact is looking for ways to pump more money in the system and keep rates closer to 0 for a very long time. Who I am to debate mathematics?
If you look at an Energy company for example, run your numbers, and spit out all its metrics including dividend yield and cash flow per share and ev/ebitda; they are all screaming buys. But they have been screaming buys for the past 5 years as well! If you bought them back then when Oil was trading above $80/bbl. Brent, your fund would be severely underperforming. An old adage from Wall Street rings true, cheap can always get cheaper! For a sector like Energy, the best metric to use is to time the Commodity cycle itself, the price of Oil and its direction. Some of the larger Energy companies cannot outperform in a bullish or bearish market, given they are unable to capture the full margins and have a high fixed cost base. As prices are lower, they seem to be losing their “dividend appeal” as well.
These consensual positions can go through periods of massive liquidity unwinds, or simply just profit taking to lock in 40%+ gains in some cases. We can see periods of bursts as we did back in April when OPEC+ decided to take 9.7 mbpd of Oil off the market. It only delays the inevitable problem, there is just too much oversupply at a time when demand is not picking up. The important point to distinguish is whether this is a short term unwind, or the start of a structural trend. Just like a mathematical problem, work each side of the equation which will help you justify whether there is a case to be made for earnings to grow for either growth or value and then reach a conclusion.
