Value Factor Performance in 2018
October 2018
This paper documents an unusually poor stretch for equity value factors and explains why difficult periods can set up better ones. In 2018, value stock-selection strategies underperformed across developed markets and nearly every sector, by an amount that is rare in the historical record. That underperformance pushed the valuation spreads between cheap and expensive stocks to among their widest levels in years. The analysis shows that wide spreads have historically tended to compress, and that value returns tend to be strong while they do. It also shows that these value strategies, being market-neutral, have had low correlation to both equity and bond markets across different environments. The paper concludes that wide spreads pointed to an attractive setup for value going forward. It is written for allocators and consultants, and it frames its conclusions as analytical perspective.
What This Paper Examines
- How value stock-selection strategies performed across regions and sectors.
- How poor value returns widened valuation spreads.
- Whether unusually wide valuation spreads tend to revert.
- How spread compression relates to value returns.
- How market-neutral value behaves across equity and bond regimes.
Key Findings
- The value drawdown was widespread and unusually severe. Weak returns appeared across developed markets, sectors, and value metrics, so diversification within value offered little relief that year.
- Poor returns widen valuation spreads. As cheap stocks get cheaper and expensive stocks dearer, the gap in valuations widens, which can be measured consistently across metrics.
- Wide spreads tend to compress over time. History suggests unusually wide valuation spreads are usually followed by mean reversion, though the timing is uncertain.
- Compression tends to bring strong value returns. The relationship between narrowing spreads and positive value returns has been more dependable than predicting exactly when spreads turn.
- Market-neutral value diversifies across regimes. Low correlation to equities and bonds means the case for value does not rest on any view about the broad market.
The Authors
Deepak Gurnani, Founder and Chief Investment Officer
Deepak Gurnani is the Founder and Chief Investment Officer of Versor Investments. Deepak has three decades of experience in applying quantitative methods to uncover alpha across global equity markets. Over the past decade, he has focused on pioneering the use of AI and alternative data in equity investing.
Ludger Hentschel, Founding Partner, Investment Advisor
Ludger Hentschel joined Versor Investments as a Founding Partner and is based in New York. Ludger has over 20 years of experience in quantitative research and investing.
Disclaimer: Past performance is not necessarily indicative of future results. Not an offer to sell or a solicitation of any type with respect to any securities or financial products.
Methodology: The analysis studies market-neutral value stock-selection strategies in the US, Europe, Japan, the UK, Canada, and Australia, ranking stocks against local industry peers on earnings, cash-flow, dividend, sales, and book yields. Portfolios are long the most attractive and short the least attractive names, with other style exposures removed through cross-sectional regressions. Valuation spreads are expressed in z-scores from 2003 and related to subsequent 12-month returns. Value returns are also examined across equity and bond-market regimes. Returns reflect estimated implementation costs.
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