Value investing is about to come back in favor this fall, says one Wall Street veteran. Here’s why it has nothing to do with the presidential election.
Larry McDonald and his research team at the Bear Traps Report say that history has shown time and again that elections are good for value stocks. It also doesn’t matter which party wins the White House.
Value investing, which is buying companies that are trading for less than their true worth, has fallen out of favor lately as growth stocks have grabbed the attention of investors.
But McDonald’s team has found that since 1980, value stocks have outperformed growth stocks for the six months immediately following an election. It doesn’t matter which political party wins the White House, it actually has more to do with all the new politicians making their way to Washington, D.C., and their ambition to get new laws on the books.
The team at the Bear Traps Report say this is because historically the party that wins the White House also takes the Senate.
With the Senate aligned with the President’s political views, getting new laws passed is a virtual certainty at least for the first two years before midterm elections.
With a clear path to getting legislation passed, McDonald’s team says that politicians pass a lot of spending bills to get the economy going. Their research shows that value stocks typically outperform growth stocks when the economy picks up. One reason is that when everything’s growing, investors no longer need to just look at a narrow group of stocks.
Value Investing and Inflation
They also point out that growth also produces inflation, and value stocks love inflation for three reasons.
1. Stock values are based on the present value of future cash flows. With rising inflation, future cash flows becomes discounted back to the present at a higher discount rate. McDonald says this hurts growth stocks more than value stocks.
2. Rising inflation pushes most investors out of bonds and into investments perceived to benefit from inflation. Some of which include value stocks and commodities. McDonald thinks the yield on a 10-year Treasury will jump to 1.5% by the end of next summer. It says that “Bonds will be destroyed, and money will be forced into alternatives.”
3. Inflation naturally benefits sectors where value stocks typically reside: financials, energy, materials and industrials. Banks benefit from a steeper yield curve. Energy, materials and industrial companies benefit during inflationary periods because their pricing power goes up.
But, at least one analyst says there could be another reason why value stocks do well following an election: seasonality.
Brian Barish, a value investor at Cambiar Investors, says value stocks naturally do well in November and December because most mutual funds have an Oct. 31 deadline for tax-loss selling. Their losing positions are sold off in September and October, and they tend to be value stocks. Once that selling stops, value stocks rebound.