Finding value in the market cycle

This article is part of
Understanding ‘Value Investing’ - August 2013

Richard Colwell, co-manager of the Threadneedle UK Equity Income and UK Equity Alpha Income funds, argues that value strategies work over the long term rather than at a specific point in the market cycle.

However, he adds: “A lot of people say they are value investors when it is en vogue, but a bit of red on the screen or a bad few months or quarters and they head for the hills, get in the crowd and buy the momentum plays of the day.

“[Value investing] as a strategy is proven to work. It is not a question of adopting it for a certain phase of a perceived economic or investment cycle – you have to stick to your gameplan regardless.”

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Chris White, head of UK equities at Premier Asset Management, adds that, in the early phase of a recovery, investors historically favour economically sensitive stocks such as construction, materials, industrials and financials.

But he points out: “That might not necessarily be the same thing as value, because it depends how much of that has been anticipated. I find sometimes it is quite difficult to talk about the business cycle and value investing.”

Instead, he explains that, as a value investor, you are looking for stocks that look interesting on valuations and have some intrinsic value or possibly a safety buffer; they have a good balance sheet and might be a slightly contrarian idea.

“It kind of doesn’t really matter what sector they’re in if they stand up to further investigation,” says Mr White. “You are really looking at companies on a stock-specific level. You go where the value is at any particular point.

“Quite often I find myself being a little bit ambivalent to where we are in the economic cycle, as you tend to get drawn to where the value is.”

Mark Cooper, portfolio manager at Pimco, agrees that while some could argue a value style works better in certain parts of the cycle, it is probably not the best way to approach value investing.

“If you think about trying to figure out what works in particular phases of market cycles, you get into the whole question of market timing. Overall, the evidence would show that most – nearly everybody – don’t do that very well.”

While there may be signs of an early-stage recovery in the UK, Mr White says this doesn’t mean he wants to invest in economically sensitive areas such as construction, industrials and financials.

He explains: “Some of those sectors have performed well already; some of them don’t really offer the valuation criteria I’m looking for. With some of the sectors, perhaps the recovery we’re seeing won’t be maintained. Historically, however, if you looked at the early stages of a business cycle, those are the sectors that would have outperformed.”

Mr Colwell acknowledges that being a value investor can be “relatively lonely”.

“At times your peer groups think you’re foolish, and you can get accused of being intransient,” he admits. “You have to keep revisiting your thesis on a stock or positioning in a portfolio. Trying to be contrarian and challenge perceived wisdoms is the best way of trying to generate returns in a very competitive industry.”