- A return of market volatility may prompt investors to think about whether to favor value stocks or growth stocks in 2018.
- One of the key drivers of the value universe is the performance of the financials sector.
- Current valuations and the outlook for earnings appear supportive for financial stocks.
With solid economic growth and continued corporate earnings strength, but also renewed market volatility, one of the questions investors may be considering is whether to allocate more to value stocks or to growth stocks for the remainder of 2018. While such an allocation decision should not be binary, fundamentals indicate investors might see strength in value going forward.
Financials may hold the key
For value-oriented portfolios to gain an advantage over growth-oriented portfolios, the financial services sector will need to outperform. The financials sector makes up more than 30% of the Russell 1000 Value index. It is also the sector with the largest proportion of value stocks relative to growth.
Currently, we believe the financials sector is inexpensive relative to the overall market and relative to its historical valuations, as of March 23, 2018. The price-book ratio of the S&P 500 financials sector is 1.48x, 53% less than the S&P 500 valuation of 3.17x. Since 1990, the price-book ratio for the financials sector has averaged 1.79x, which is 21% higher than the current ratio.
Earnings enhance the fundamental outlook
In addition to the sector’s attractive valuation, earnings for financial companies are projected to outpace earnings for the broader market and for most other sectors. According to Factset, the earnings of stocks in the financials sector are expected to grow by nearly 27% during 2018, compared with an average of 18.4% for the broader market.
Although the financials sector has experienced significant volatility in the first quarter of 2018, the sector’s combination of attractive valuation and earnings strength is a positive indicator for these stocks and could be supportive for diversified value strategies in coming quarters.
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The views and opinions expressed are those of Matthew Beaudry, are subject to change with market conditions and are not meant as investment advice.