PIMCO: Time To Pick Value Over Growth

As the Fed prepares to raise rates, the tides could be about to turn on style choices.

Reviewed by: Cinthia Murphy
Edited by: Cinthia Murphy

The Federal Reserve’s monetary easing since the financial crisis has given U.S. growth stocks the upper hand relative to value companies in recent years.

But the tides could now be turning, PIMCO says in a recent research note, and it is value stocks that stand to gain, going forward.

In the ETF market, that dynamic between growth and value is easily seen in various funds.

Consider the performance of the Vanguard Growth ETF (VUG | A-92) compared to the Vanguard Value ETF (VTV | A-100). In the past five years, growth-focused funds have clearly outperformed—think growth companies like Apple, Facebook and Amazon versus value names such as Microsoft, Exxon Mobil and Johnson & Johnson.

Chart courtesy of StockCharts.com

Tide About To Reverse

What do interest rates have to do with growth and value? A lot, according to PIMCO, as it explained what has propelled growth up to now.

“First, falling rates suggest a weaker economy, so more cyclical and economically sensitive value stocks face a head wind,” Pimco said in its research note. “Second, lower policy rates mean lower discount rates, so the future earnings of growth companies are more valuable today.”

But as investors are awaiting the Fed rate hike that could come as soon as next month, the tidal reversal to rising rates should lift value stocks higher than growth, according to PIMCO.

So far this year, investors have poured $2.5 billion into a fund like VUG. More broadly speaking, the 10 largest U.S. growth ETFs with combined assets of roughly $95 billion have now attracted $8.3 billion in fresh net assets year-to-date.

VTV, meanwhile, has gathered a more modest $1.8 billion, according to ETF.com data. The 10 largest U.S. value ETFs have seen net creations of about $6.4 billion so far this year—combined, they have about $82 billion in assets.

Valuation Gap Expanding

But the ongoing outperformance of growth versus value stocks has widened the valuation gap between them.

As growth stock valuations get loftier, value stocks are looking that much more attractive going forward. PIMCO says investors should consider increasing their allocation to value.

“When the Fed ultimately starts to raise rates, it will be a signal that the economy is strengthening,” the company said. “This, combined with valuations, could serve as the catalyst for mean reversion in style performance.”

The market is currently pricing in a 60-70% chance that the Fed will raise rates in December.

Contact Cinthia Murphy at [email protected].

Cinthia Murphy is head of digital experience, advocating for the user in all that etf.com does. She previously served as managing editor and writer for etf.com, specializing in ETF content and multimedia. Cinthia’s experience includes time at Dow Jones and former BridgeNews, covering commodity futures markets in Chicago and Brazil equities in Sao Paulo. She has a bachelor’s degree in journalism from the University of Missouri-Columbia.