Since October, when the first signs emerged that the European economy was entering a cyclical upswing, investors have committed more than €5.5bn to European value equity funds, according to Morningstar fund flows. And Lipper, another provider of fund flows intelligence, reported on Monday that the best-selling ETF for May in Europe was the iShares Edge MSCI Europe Value Factor ETF. European growth stocks, on the other hand, have seen an eight-month streak of net outflows.
Fund buyers attending the Expert Investor Luxembourg forum last week also had a strong preference for value over growth: almost six in 10 opted for value when asked to make a choice between the two investment styles, while only 10% preferred growth stocks.
Since November, growth and value stocks have registered remarkably similar returns, as the twin forces of benign macroeconomic data and dovish central bank policy, combined with a remarkable lack of volatility, has lifted all boats. However, on a longer-term basis a large performance gap between value and growth stocks remains (see graph). And that’s exactly the reason many European investors have been so bullish on value stocks for a while.
Value or growth?
Investors should, however, be hesitant focusing too much on the presumed distinction between value and growth stocks. In practice, it’s not as clear-cut as there is quite a bit of overlap between the MSCI Europe Value and Growth indices: for example, Bayer and Siemens are part of the top-6 of both the value and growth indices, and there are many more stocks that feature prominently in both indices.
As Didier Rabattu, head of global equities at Lombard Odier IM, told the audience at Expert Investor Luxembourg: “Looking at value versus growth is not the right approach. It’s not because the price is high, that a stock is not a value stock. Look for example at Colgate in the US: it has outperformed the US market by 5 or 6% per year over the past 45 years. It has a P/E of 20/22 times, and a 60-70% return on capital employed. Is that a value or a growth company?”
“For us, the most important thing for a company to outperform is that they produce cash,” Rabattu added.
ETF flows, source: TrackInsight
Rob Burnett, manager of the Neptune European Opportunities Fund who also spoke at the event, had less objections to be placed in the camp of value investors. Burnett agreed that the question whether a company was generating cash flows is the metric to emphasise for investors. It’s also here where the value element comes into play.
“Typically, we look for companies whose margins have already suffered but that are still cheap, even though their earnings have taken a hit,” he said.
Anticipating on a rebound in company performance is of course a distinctive value investor mentality, and it reminds a bit of the prevalent reasoning behind the current appetite for value over growth: the latter has outperformed the former for three years, so now the time has come for value to shine.