In a recent article in ETF.com, BAM Alliance’s director of research shares insights on the state of the value premium in today’s market.
Swedroe explains that “even though the value premium has been quite large and persistent over the long term, it’s been highly volatile” (citing data from Dimensional Fund Advisors). He adds, however, that a long period of value underperformance “should not cause investors to abandon a well-developed plan” or question whether the value premium exists.
Swedroe outlines several supporting reasons:
1) “Risk cannot be arbitraged away, and the research offers many simple and intuitive risk-based explanations for the persistence of the value premium.”
2) If findings regarding a diminishing value premium had in fact led to its disappearance, he says, “we should have seen massive outperformance in value stocks as investors purchased those equities and sold growth stocks. Yet the last 11 years have witnessed the reverse in terms of performance.”
3) Academic research has found that the higher the earnings yield, the higher the expected return, and the larger the spread in valuations between growth and value stocks, the larger the future value premium is likely to be. What’s more,” writes Swedroe, “this relationship holds across asset classes, not just for stocks.”
Swedroe concludes: “What’s important to understand is that the premiums for the market overall, for small stocks and for value stocks, have been earned only by investors disciplined enough to stay the course through periods when the asset classes (and factors) in which they have invested underperform.