A JPMorgan investment chief overseeing $5.4 billion breaks down 4 sector-specific strategies for beaten-down value stocks poised to rebound as vaccine progress boosts economic growth
- The ongoing rotation into so-called value stocks – or beaten-down companies with discounted share prices – looks to extend into 2021, and possibly beyond.
- There are four sector-specific strategies for how to play it, according to Michael Barakos, JPMorgan Asset Management's co-chief investment officer of the International Equity Group, who oversees $5.4 billion.
- "You are spoiled for choices as a value investor for great value ideas across, particularly the European market, but globally as well," he said.
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To be a value investor you need the bravery to "pull the trigger" and buy unloved names, even if it makes you look silly at first, according to Michael Barakos, JPMorgan Asset Management's co-chief investment officer of the firm's International Equity group.
This was definitely true in 2020, as value investments were decimated by the pandemic, only to stage a historic recovery in November on the positive vaccine news from Pfizer and BioNTech, as investors saw a route out of lockdowns and into economic recovery.
The reversal of value's fortune was seen globally. But with Europe's heavy weighting in "old economy" stocks, the MSCI European value index has risen 15.39% in the last quarter, compared to the MSCI European growth index's 5.23%, according to Bloomberg data.
That's "a night and day spread," the executive said, who helps oversee $5.4 billion. "It was a matter of when, rather than if, and we're certainly not surprised by the reaction of value, given the news flow on various – what look to be – very effective vaccines over the last few weeks."
The vaccine's arrival, combined with certainty over the US election, has created the climate for the market's recovery, he said, explaining that "when there's a reduction in uncertainty through more clarity that tends to reduce risk premium for particularly out of fashion value stocks."
But, the trend is set to continue, Barakos said, giving it at least a six-month run. The "value spreads today in Europe are still top percentile wide versus history, despite massive out-performance in November…. I think it bodes well for this being potentially just the beginning, and the tip of the iceberg," he said.
Play the iceberg, avoid being the Titanic
In a world characterized by low returns and yields, many investors have turned to both US growth stocks, as well as defensive names. Both have performed throughout the coronavirus crisis. But the huge outperformance of growth versus value can be almost entirely "put down to the manipulation of the long end of the yield curve," Barakos argued.
"Almost all the price pulls you could simply put down to the discount rate coming in or the risk-free rate coming in further," he added.
For Barakos, there are some "big parallels with the TMT bubble of 20 years ago, that's the biggest parallels I see. Or obviously to a lesser extent parallels with the GFC, Eurozone crisis, etc," he said. But unlike the TMT bubble, when the super sector popped, growth will move "sideways or certainly underperform."
"It's more a matter of the value areas of the market, whether it's in Europe or the US… just being in our minds way, way, way too cheap. Even if you assume nothing for the earnings uplift, which I think are depressed that will recover, just the rerating alone can make you phenomenal returns," he added.
In addition, value companies are "going to get big, fundamental recovery in these value sectors, whether they're banks, energy, autos or basic resources versus very beaten up expectations," he said.
"It'll be a double positive," he said, meaning "you should expect for international markets to outperform US markets, but it would depend on value continuing to outperform growth, no doubt about it."
"Valuations are extremely distressed across the sectors," Barakos said, highlighting the banking, energy, auto and basic resources sectors.
"You could buy almost any stock in certain sectors, and I think you're onto a winner on a near term view [and] on a medium term view," he added.
In the banking sector, people are spo ilt for choice with high-quality and "very well capitalized names," he said.
"The banks are at 0.65x tangible book, even though we rated 30% in the last month – that's a big move I accept – but it's still only 10% more expensive than the height of the GFC when it felt like the world was coming to an end [and] there wouldn't be a bank left in existence in late '08/early '09." he said.
"You don't need to stick your neck out… you can go for the real blue chip, large names, that are well-capitalized, and clearly going concerns," he noted.
The same is true for basic resources where again you don't need to be taking on the "sizer issue", he explained. With the base of resources stocks trading on 0.3 times net asset value, that is "assuming a lot of impairment to the underlying assets."
"Pretty much any mega cap based resource name to me looks very attractive and in many cases, has got a pretty diversified portfolio of natural resources," he said.
Adding that "cheap as chips" energy also offers a clear example for opportunity, he said he would "probably stick with the oil majors over some of the old services names and some of the EMP names, just because I think there's a lot of financial leverage in there and a bit too much risk."
"I don't think you'd need to take that risk. You can do perfectly well from an oil major name and they're all up 30-50% in the last month or so," he explained.
Automobiles are another sector with ample opportunities. "You've got half a dozen OEMs (original equipment manufacturers) in Europe [and] you've got another half a dozen decent sized suppliers that I think are pretty much without exception great investment ideas, dirt cheap with improving fundamentals in many cases, and some of them actually showing pricing power," he added.
"You are spoiled for choices as a value investor for great value ideas across, particularly the European market, but globally as well," he concluded.
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