Forget trading cards, this is the time to be collecting value stocks

Various markets may be offering examples of jaw-dropping levels of risk tolerance but that does not mean there are not some exciting opportunities for patient value-conscious investors with a longer-term outlook

01/06/2021

Andrew Williams

Andrew Williams

Investment Director

Not so long ago, you could be pretty certain markets were growing frothy when cabdrivers began venturing unsolicited, ‘dead-cert’ share tips. Taxi journeys may have been fewer and further between during lockdown and yet investors have hardly been short of alternative indications that people’s assessments of what constitutes ‘good value’ these days may not be entirely built on solid ground.

Forget share prices – just for a moment – and consider the world of trading cards. That someone could be prepared to pay $5.2m (£4.1m) for an ‘ultra-rare’ Mickey Mantle baseball card or the same amount for a similarly scarce LeBron James basketball card – transactions that have both already happened this year – may have you shaking your head in disbelief.

 

That a mint condition Pokémon card known as a ‘Charizard’ could sell for close to $400,000 and indirectly lead to an attempted robbery and a gun being drawn in a US supermarket carpark and US retail giant Target subsequently declining to sell Pokémon and major sports trading cards in a bid to protect customers and staff – well, now we are into a whole different level of reality.

The thing is, examples of this sort of behaviour – albeit, thankfully, minus the gun use – are becoming a whole lot more common than a photo of NBA giant James ahead of his debut season for the Cleveland Cavaliers. On another day, we could have focused on Twitter founder Jack Dorsey selling his first-ever tweet for $2.9m, the rise of the ‘non-fungible token’ or Tesla’s on-off love affair with bitcoin. We still might.

Animal spirits

Animal spirits – of the John Maynard Keynes variety rather than any Pokémon characters – are clearly coursing through financial markets. And while it is impossible to measure investors’ risk tolerance directly, we can gain some understanding of it by considering their behaviour. The various examples above may be anecdotal but they do suggest risk tolerance within financial markets is bordering on extreme.

 

More scientific ways of assessing risk tolerance would include looking at buyout multiples in private equity deals or the amount and types of leverage used in transactions – both of which are at record highs. Indeed, regular visitors to The Value Perspective may recall our occasional ‘red-flag’ series on those and other examples from our burgeoning folder of ‘red-flag’ market indicators.

It would be fair to say the majority of our warning indicators are flashing red – though that is not to suggest we expect imminent collapse. Bubbles are clearly brewing in some areas yet the financial health of the UK consumer is, thanks to government support, relatively strong. Credit card and unsecured lending by high street banks has been significantly paid down and cash in UK deposit accounts is up around a third on last year.

Importantly, an extension of the stamp duty holiday is supporting the UK housing market while US president Joe Biden is signing off trillions of dollars of stimulus for what is the UK’s second largest export market. Economic recovery and growth, on top of continuing low interest rates, those animal spirits, an end to lockdowns and, who knows, maybe even some better weather would comprise a potentially heady cocktail.

Starting valuation

You do not need be a raging bull to see that leading to a significant rerating of the UK market – then again, you do not actually need to believe any of the above to be relatively positive on the outlook for either UK equities or value investing as a style. Academically, the best predictor of future returns for a market is not a narrative about the trajectory of the economy, or the risk tolerance of markets, but its starting valuation.

When we look at the UK market today, its valuation is most definitely not flashing red. At 13.6x, which is almost exactly in line with the post-1980 average, you might even consider the current CAPE valuation of the UK market to be closer to green than amber. There are no signs of stress at a headline level or of overheating – and indeed history would suggest that returns from today’s level, over the medium term, should be healthy.

Similarly, when we think about the prospects for value investing as a style, there is little evidence to be concerned. Since Pfizer’s announcement of a vaccine on 9 November, there has been a significant bounce in the performance of value. Despite this eleventh-hour improvement, however, 2020 was still the worst year in five decades for the performance of value versus growth.

Value’s renaissance

Until November, the headwinds for value had lasted 10 years, so it would be surprising if the style’s renaissance were all done in the space of six months. Ultimately, the prospects for value are best indicated by the level of relative valuation when compared with alternative investment styles, such as growth. When viewed like this, the valuation disparity remains far wider than fundamentals would suggest is justified.

Some companies within the value cohort have used the pandemic crisis fundamentally to adjust their business models and, even if the pace of outperformance may slow, there remains significant upside for patient value investors with a longer-term outlook. That said, while the prospects for the UK and for value investors appear robust, those extreme behaviours and bubbles within global markets means it is important to be selective.

Never mind trading cards and cryptocurrencies – even within the UK there are areas where both risk tolerance and valuations are high and investing there can prove just as damaging to one’s financial health. Still, here on The Value Perspective, we will continue to combine our heightened sensitivity to risk with a focus on lowly valued companies that history suggests will, on average and over the longer term, deliver strong returns.

Author

Andrew Williams

Andrew Williams

Investment Director

I joined Schroders in 2010 as part of the Investment Communications team focusing on UK equities. In 2014 I moved across to the Value Investment team. Prior to joining Schroders I was an analyst at an independent capital markets research firm. 

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The views and opinions displayed are those of Nick Kirrage, Andrew Lyddon, Kevin Murphy, Andrew Williams, Andrew Evans, Simon Adler, Juan Torres Rodriguez, Liam Nunn, Vera German and Roberta Barr, members of the Schroder Global Value Equity Team (the Value Perspective Team), and other independent commentators where stated.

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