Value and momentum: convergence in 2021?

The rotation from growth to value stocks that began last year has once again received a strong boost at the start of the year. In the USA, the «blue wave», i.e. the Democrats' majority in both chambers of Congress, has paved the way for a USD 1.9 trillion economic stimulus package, which will soon be supplemented with an infrastructure programme worth around USD 2 trillion.
Meanwhile, inflation expectations have risen sharply and long-term interest rates have also risen. This in turn favours value stocks, as the «duration» of their earnings is significantly shorter than that of growth stocks. Together with the cyclical recovery, these value catalysts are likely to remain in place for some time to come. Based on this, an extremely remarkable development is taking place in the background, which is particularly worth paying attention to as a quantitative investor.

Value versus momentum

hen value is in the spotlight, momentum usually goes through a difficult time and vice versa. This is confirmed not only by various studies, but also in the following chart, which shows the correlation of the two factors over time. The blue line has been below zero for around 10 years, with few exceptions, so that the two factors are essentially observed to have a negative mutual relationship. One reason for this is that the low valuation of value stocks is usually based on weak performance in the past. Value stocks therefore generally have a negative momentum.

Correlation between value and momentum

Momentum with value

In the current situation, it is unusual for us to move away from an extreme positioning of the markets in terms of value (compared to growth). It is still rare for growth to be as strong as in previous years compared to value. It is also not surprising that the momentum factor was dominated by growth stocks until last year. Accordingly, the two factors followed their typical relationship: momentum top (flop), value flop (top). If we now look at the ratio of price-earnings ratios (P/E ratios) for the securities with the highest returns to the securities with the lowest returns over time (see chart) we can see that this key figure has sharply corrected downwards recently.

Price Momentum 12-1m (beta adjusted) in MSCI World

This shows that the growth exposure of the momentum factor has decreased significantly in recent months. In other words, momentum stocks are increasingly also value stocks. This is due to the fact that the affected shares continue to be very attractively valued despite their price recovery.

Multi-factor strategies in pole position

Knowing that only a part of the value rotation is reflected in the momentum factor, and anticipating continued support for value stocks, a rare phenomenon could occur in the coming months: value with positive momentum. The lock-step of two normally negatively correlated factor premiums has not yet been fully achieved. There is also no certainty as to whether and to what extent this «golden phase» will ultimately materialise. However, those who do not want to miss this rare opportunity for above-average alpha generation are in a very good starting position with long-term multi-factor strategies that focus equally on both value and momentum.