Value Stock Bulls Are Counting On a Democratic Sweep

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The latest hope for beleaguered value managers: a decisive Democratic win next week.

The argument is that a blue wave of Democrat lawmakers in the halls of Congress would lead to a massive stimulus package to rev up the economy and spur inflation. That could set the stage for a rally in cyclical stocks and finally knock Big Tech off its perch atop the U.S. equity market.

“I don’t think it’s fully priced in,” Ronald Temple, head of U.S. equities at Lazard Asset Management, said on a webinar last week. “If we have a broadening of the economic recovery from all of this fiscal stimulus, there will be more companies with growing revenue to choose from.”

Value stocks -- those that look cheap relative to fundamentals -- tend to be cyclical companies that ride economic growth trends, such as banks and energy producers. A steeper yield curve also works in favor of value strategies. As long-end rates rise, investors will gravitate to stocks that can deliver cash flow now, instead of companies selling a long-term growth story, Temple said.

It’s not a sure bet. As many value diehards would tell you, few stock rotations in their favor have lasted since the global financial crisis.

Value Stock Bulls Are Counting On a Democratic Sweep

That might be why the strategy of buying undervalued shares remains in the doldrums, even as other areas of the market price in the effects of more stimulus under a Democratic administration.

The spread between 5- and 30-year Treasury yields has widened 28 basis points over the past three months as polls showed a commanding lead for Democratic candidate Joe Biden. But an index tracking a strategy that buys cheap stocks and sells expensive ones -- which tends to follow the yield curve -- has largely gone nowhere.

History is also on the side of value strategies starting to improve. In seven of the last nine presidential elections, factors such as small size, value and high volatility have outperformed their historical averages in seven months after the vote, regardless of which party prevails, according to Style Analytics, a technology provider. That might be because newly elected presidents tend to unleash economic stimulus.

Of course, predicting market reactions to political events in recent years has been a sure way to make bad calls, and the surge in Covid-19 cases doesn’t bode well for a recovery in economically sensitive stocks. Value bulls may have to be a little choosier.

“You could see a major rotation -- not your grandfather’s growth to value rotation -- but a rotation into quality, into high current returns on capital and sustainable returns on capital,” Temple said. “This is likely to be a stock picker’s market.”

©2020 Bloomberg L.P.

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