Undervalued Value Stocks Could Rebound

This year has seen the largest divergence between the valuations of growth and value stocks since the dot-com bubble, according to a recent article in The Wall Street Journal.

This, the article says, has left investors “searching for ways to pinpoint when preferences will switch back from growth to value.” It could also signal either a market peak or a “realistic assessment of dismal log-run economic growth prospects, depending on your view.”

According to Gerard Minack of Australia-based Minack Advisers, the divergence signals that the market has reached a “level of exuberance. He adds, “Markets are normally exuberant at the top, but exuberance alone doesn’t mean it is the top.” The article suggests that investors could be anticipating a period in which growth companies are expected to continue their upward march while value companies will struggle to keep up. Alternatively, it argues, gains in tech and other growth sectors could also be closely tied to falling bond yields. “If the outlook is for lower, long-run inflation and interest rates,” it suggests, “then profits far in the future are worth more when discounted back to today.”

The article quotes Nicholas Melhuish, head of global equities at Amundi, who suggests that the trend could be a sign that “over-hyped stocks are getting too expensive and cheap stocks getting too cheap.” This, he argues, could lead to a value rebound. “You get to a point,” he says, “where you have a value gap that’s so extreme that quite often that can act as a catalyst [to rebound] by itself.”