Posted inAnalysisEquities

Are value stocks diamonds or landmines at the moment?

Typically, as a traditional equity bull market slows or grinds to a halt, investors look for a way to keep the returns coming. This inevitably puts value investing in their sights. In a parallel fashion to a party where the good wine has run out, rather than call it a day they decide to move on to the cheap beer.

Plenty of investors have tilted toward value this year already with more likely to follow. This has worked in the past to some extent at least, and the party has carried on albeit not being as good as earlier in the night. This time around though, there are increasing signs that piling into a bunch of cheap stocks right now could leave you nursing the investment version of a nasty hangover.

It should be borne in mind that in many cases value stocks are ‘cheap’ for a good reason. Sure, there will be plenty of gems where the market has not realised the true qualities and earnings potential of a company, particularly the lower you go down the market cap scale.

However a large proportion of them will just be crap, and while fund managers will earnestly tell you they have procedures, models and various stock picking techniques which will allow them to side-step the turkeys and snap up the diamonds in the rough, they only need to get it wrong a few times to wipe out any prospect of meaningful returns.   

Something which jumped out as I read comments from Fidelity’s Alex Wright on value investing was the fact that he predicated his outlook for value stocks on macroeconomic conditions remaining relatively benign. Wright noted that some sectors in particular such as banks, oil and construction seem to have a recession priced in already. But what kind of recession?

Part of the Mark Allen Group.