Over the long-run, value companies have outperformed growth companies. Roger Ibbotson in his 2016 SBBI Yearbook estimates that US small value companies have returned 13.7% annually from 1928 to 2015 compared to 9.3% by small growth, 11.0% by large value and 9.1% by large growth. This methodology uses price to book value as the determinate of value or growth: a low price to book representing value and a high price to book representing growth.
As shown by the table below, value has outperformed growth for most decades since the 1930’s.
Compound annual return of US shares by style
(Fama-French book value classification)
Source: Roger G. Ibbotson, 2016, 2016 SSBI Yearbook
Price to book is just one way to judge value, we can also use price-to-earnings (PE) multiples. Jeremy Siegel in Stocks for the Long Run used trailing 12-month PE to run a similar analysis on the S&P 500 from 1957 to 2012. He found that the lowest PE quintile (generally associated with value stocks) returned 12.9% annually compared to only 7.9% by the highest PE quintile (generally associated with growth stocks).
Compound annual return of S&P 500 by PE Quintile
Source: Siegel J, 2014, Stocks for the Long Run
Growth tends to outperform late in market cycles, while value tends to outperform in market downturns and the early part of the recovery. But this dynamic is not consistent across all market cycles. As far as we can tell, the worst performing group in a downturn is often the group that performed the strongest in preceding years – be that value or growth companies.
These studies show that, in general, growth companies are often over-hyped and overvalued. So they fail to deliver on the exuberant expectations while unloved value companies produce better returns in the long-run. Of course, this runs in cycles. A new technology may emerge that spawns dozens of companies in a new high growth industry and causes growth stocks to outperform. The opportunity in these companies is quickly appreciated by the market and the shares are re-rated higher. But the market generally overshoots, pushing the valuations to extreme levels and setting them up for disappointing future returns. However, growth companies are attractive at certain times, when expectations and valuations are reasonable, setting them up for future out-performance.
The key takeaway is that with markets in a constant state of change, it pays to take an active and disciplined approach. This is why we conduct thorough research and have a range of metrics to evaluate where our investors’ money should and shouldn’t be invested.