Stockopedia: 10 value stocks the market might be warming to

Are investors moving from ‘growth’ and ‘momentum’ to ‘value’?

When it comes to calling the top of bull markets and the bottom of bear markets, investor Jeremy Grantham has form. He was spot on in pinpointing the end of the brutal collapse in prices after the financial crisis in 2009. And for a dyed-in-the-wool value investor like him, those calls make a huge difference when you’re managing colossal sums of money.

Grantham is the British born co-founder of highly-respected US investment firm GMO. At a time when share valuations - certainly in the States - are very high in places, attention is turning to whether a pull-back could be on the way. Earlier this year, Grantham wrote a note to investors warning that the US stock market had become a “fully-fledged epic bubble”.

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He wrote: “These great bubbles are where fortunes are made and lost – and where investors truly prove their mettle. For positioning a portfolio to avoid the worst pain of a major bubble breaking is likely the most difficult part.”

In the UK of course, there’s been nothing like the surging run in equity prices seen across the Atlantic. But a correction, or worse, over there would certainly have a negative impact here. And it’s perhaps partly for this reason that we’re continuing to see evidence of a rotation in the types of shares that investors want to hold - and how those stocks are performing.

Specifically, there are signs of a shift in interest from ‘growth’ and ‘momentum’ to ‘value’.

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For more than a decade, ‘growth’ and ‘momentum’ have been watchwords in Western stock markets - and that’s been painful for value investors. In normal conditions, when valuations are on average fairly reasonable, value hunters look for the best cheapest options… and wait. But that strategy doesn’t dependably pay off in frantic bull phases.

But over the past year or so value stocks do seem to have captured the imagination of investors. Covid-19, despite the huge damage caused, has put an interesting spin on this.

Some stocks and sectors have become very beaten down. And with signs of economic optimism starting to emerge, the question now is which of this wider field of cheap stocks can start to recover.

For investors, one option is to look for value shares that are starting to see momentum building behind them. Research shows that this combination of factors can offer a smoother, less volatile performance than you get from either factor on its own. It’s this kind of area of the market that might see more action if beaten-down stocks continue to recover.

Value and momentum

This week, we’ve used a screen that applies Stockopedia’s value & momentum (VM) rank to find relatively cheap shares with the best positive trends. This composite rank includes a range of valuation measures, along with several measures of both fundamental and price momentum to find the overall top ranking VM shares in the market.

As you can see from this chart, the top 10% of VM shares suffered in the Covid-19 shock early in 2020, but handily outperformed the market both before and after that.

Past performance is not a guide to future performance.

Those stocks currently among the top value and momentum plays range from micro-caps like manufacturer Renold (LSE:RNO) and the recruitment firm Gattaca (LSE:GATC) through to mid-caps such as insurance group Just Group (LSE:JUST) and large-caps such as Barclays (LSE:BARC) and Royal Mail (LSE:RMG).

In the current market conditions, there are questions about whether the growth and momentum trade, which has been so powerful in recent years, may weaken. With valuations stretched in places and concerns growing about bubble conditions in the US, there are good reasons to be cautious. But against a backdrop of an uncertain but potentially improving economic outlook, there could be scope for re-ratings in beaten-down stocks.

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A combination of appealing valuation and positive price strength are hallmarks of some of the world’s most successful investors. In tandem, these two factors can point to shares with classic turnaround profiles - where the shares are bouncing back from a period in the wilderness.

Most investors shun them, and there is no doubt that careful research is needed. Yet cheap stocks on the move may well offer a smoother way of capitalising on two of the strongest drivers of returns in the stock market.