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Recently, I’ve been thinking about whether we are transitioning from the post-GFC market regime to something new and what that could mean for asset allocators and portfolio positioning. While allocators can’t assume they will be able to spot the next regime’s winners, they can be careful about their exposure to the prior winners and think broadly about which areas of the market are likely to offer more compelling returns over the next 5 – 10 years.
In terms of prior winners, growth stocks certainly stand out. We’ve been in a decade-long period in which growth dominated, aided by innovation and technologies that transformed the economy and fundamentals. But as I’ve said before, there is clear historical evidence of a growth/value cycle (Figure 1), and so I expect to see value regain leadership eventually. We may also be moving into a more volatile world in which stability takes priority over innovation, which would tend to favor value.
Value — In this new world, valuations should begin to matter in a way they haven’t at times during the last decade. Value could provide a margin of safety when we’re in volatile markets, meaning that stocks with lower valuations should sell off less in some scenarios. In addition, the sector mix in the value universe, which tends to include areas like energy, natural resources, and financials, may be more attractive in what I believe will be an inflationary regime.
Stability — There’s an adage that when growth is scarce, growth stocks outperform, and this was true for much of the last decade. Going forward, I believe, stability will be scarce and stable stocks are likely to outperform. In terms of specific types of strategies that fall into a “stability” bucket, low-volatility strategies may have a place, but it’s worth noting that they tend to be challenged in rising-rate environments. I would look to “compounders” (equity strategies focused on companies with high and stable free-cash-flow yield and the potential to grow modestly but steadily over time) and to defensive global equity strategies that seek to preserve capital in adverse markets while providing equity-like returns in up markets. (Our Fundamental Factor Team provides some additional thoughts on the need for defensive strategies here.)
Income — Equity income hasn’t been an area of focus among allocators for some time, but that may change. The immediate cash flow may be more attractive in an inflationary world, but I also look to dividend growers as another source of calm in a storm: Companies that are able to grow their dividends over time may provide an element of quality and stability.
Growth — While we may be approaching a long-awaited pivot to value, investors in an uncertain world may be well advised to maintain a diversified factor footprint, and that includes exposure to growth. That said, allocators may need to consider a different kind of growth in the next decade — it might be steadier, self-financing, and less-speculative growth, for example. Or it might be growth driven by long-term thematic trends that will transform the way we live.
In a recent paper, I consider changes in four additional areas — inflation, the business cycle, interest rates, and active management — and how allocators can prepare.
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