With value sectors performing better after positive news on Covid-19 vaccines, Premier Miton Investors’ David Jane, believes there are two deep value sectors that have ‘huge’ potential for a sustained rally in the short term.
While the debate over value versus growth has been ongoing for some time, what it actually boils down to is an argument for certain industries over others, according to the multi asset manager.
“Growth indices are dominated by the obvious technology and internet related business while financials, telecommunications, energy and traditional retail are highly represented in the value indices,” Jane (pictured) explained. 
“It is easy to see how, in an era of rapid economic change, markets should be comfortable buying those companies leading the changes and nervous about investing in industries which are potentially getting disrupted.”
However, he noted that the divergence has been also partly driven by ultra-low bond yields, which favour multiple expansion for growth businesses, and the trend towards ESG (environmental, social & governance) investing ,which affects many traditional manufacturing and energy businesses.
Whilst recent weeks have seen a reversal of some of the gains made by growth stocks, this was most likely because of greater confidence in the economic outlook, the consequent rise in bond yields, post-vaccine announcements and the US election, said Jane.
Performance of growth vs value styles YTD
Source: FE Analytics
And because of these changing trends, he revealed that there were two deep value cyclical sectors that he is rebalancing towards.
“Neither of these sectors are seen as particularly attractive over the very long term,” he admitted. “However, the global economy cannot function without them, at least in the short term.
“Amongst the value and recovery sectors, these are the ones we are currently using as they offer a good balance between upside potential and the liquidity to move on when the time is right.
“We cannot know how long they will remain in favour or how much the valuation gap needs to narrow, having fallen so far, the potential for a sustained rally is huge.”
The first of the two deep value sectors he is buying is banks, which have been out of favour since before the global financial crisis.
Performance of MSCI World/Banks versus MSCI World over 10yrs
Source: FE Analytics
When they have found periods of respite, they have coincided with rising bond yields and economic re-accelerations, the multi-asset manager noted.
“The reasons for this are somewhat obvious,” he explained. “Very low bond yields really challenge banks’ ability to make money both from deposit taking and lending, while many other areas of traditional banks’ business models are under threat from new entrants.
“These previously politically favoured businesses have become political footballs with politicians happy to increase regulation and capital requirements with little public pushback. This is especially so in Europe.”
However, once the Covid-19 crisis took hold, he commented how “markets naturally became concerned about the potential for bad debts in the recession”.
He explained: “Banks entered this recession with materially stronger balance sheets as a consequence of years of stress tests and capital raising.
“At the same time, governments have supported individuals and businesses with direct financial aid.”
As a result, he finds it “very likely” that the outcome for banks in this downcycle will be “much less bad” than previous times and brought up the possibility that their dividends could be reintroduced next year.
“With the European banks sector trading at half book value, it is hard not to believe the market is discounting an awful lot of bad news,” he said.
The second sector that the multi-asset manager is buying currently is the traditional energy sector, which has also been hugely out of favour, been hurt by the increase in supply from fracking in the US and elsewhere as well as falling demand during the crisis.
“In addition, the ESG trend has heavily impacted shareholders’ willingness to invest here,” said Jane.
“While we strongly believe the transition to renewables will continue, particularly given increased government support in Europe and potentially the US, the fossil fuel industry will be around for a very long time into the future.”
“Renewables still make up a relatively small proportion of the world’s energy mix.”
Performance of MSCI Energy versus MSCI World over 10yrs
Source: FE Analytics
Jane believes that a Joe Biden regime will lead to a much less favourable outlook for fracking, and that the US could quickly become a net importer of energy.
This, he argued, would change the global supply demand dynamics favourably.
“At the same time, the likelihood of the new US regime intervening in Middle East politics is higher, which would both destabilise supply as well as increase demand,” he concluded. “Strong recent rises in oil prices suggest the market recognises this.”