Report
Exploring the Relationship of Interest Rates to Value vs Growth Investment Strategies.
by:
- If interest rates increased rapidly, Value stocks tended to outperform Growth stocks.
- In the US, Value stocks would outperform if long-term rates climbed by 5% in a given month, and in the UK, this threshold was over 20%.
- However, when rates didn’t reach these thresholds, no clear winner emerged.
Source: Federal Reserve Economic Fata (FRED) (https://fred.stlouisfed.org/series/DGS10)
Source: Federal Reserve Economic Fata (FRED) (https://fred.stlouisfed.org/series/DGS10)
In the United States, whenever the 10-year treasury rate increased by 10% (e.g., from 1.00% to 1.10%), we could anticipate Value stocks outperforming Growth stocks by approximately 100 basis points (bps). In the UK, a 100bps Value outperformance over Growth could only be expected if rates increased by at least 20% on a monthly basis.
Since our initial analysis, the 10-year treasury yield has continued its historic ascent. The question now is whether this relationship with long-term rates remained consistent during the Federal Reserve’s aggressive rate hike cycle in 2022.
Between the trough and peak of the 10-year yield, spanning from June 2020 to October 2022, Value significantly outperformed Growth. However, this analysis only included data up to April 2021. To understand the situation in 2023, we divided the rate-rise period into in-sample (from June ’21 to April ’21), out-of-sample (April ’21-October ’22), and post-peak (October ’22 to June ’23) periods.
Source: Federal Reserve Economic Fata (FRED) (https://fred.stlouisfed.org/series/IRLTLT01GBM156N)
Source: Federal Reserve Economic Fata (FRED) (https://fred.stlouisfed.org/series/IRLTLT01GBM156N)
Specifically, our findings indicate that:
- In the US, Value stocks outperform Growth stocks by 113bps if the monthly rate increase exceeded 10%.
- In the UK, Value stocks outperform Growth stocks by 134bps if the monthly rate increase exceeded 20%.
Interestingly, in the UK, Value outperformed to a greater extent than initially anticipated. We expected a 100bps outperformance for every 20% increase, but the actual outcome was 34bps higher than in our initial analysis.”
To assess whether the slope of this relationship remained consistent in the out-of-sample period, (excluding rate hikes prior to October ’22), we conducted a separate regression analysis. The results closely resembled those observed in the total period analysis, with minor deviations due to the smaller sample size of 18 observations. A larger data set is expected to align more closely with our total period findings.
The trend is illustrated in the “US Market” chart below, where the Value-Growth spread consistently favored Value stocks throughout the total period but showed signs of weakening as the US 10-year yield fluctuated between 3.5% and 4% as of October 2022. In 2023, the decrease in the Value-Growth spread highlighted Growth stock outperformance in the US as several major technology companies recaptured valuations lost in 2022.
Source: Federal Reserve Economic Fata (FRED) (https://fred.stlouisfed.org/series/IRLTLT01GBM156N) and Style Analytics Markets Analyzer
A similar pattern emerged in the UK market, where rates initially decreased in September 2022, only to rise to 4% by June 2023. The Value-Growth spread continued to favor Value stocks as rates climbed, though to a lesser extent as the rate increases moderated.
Source: Federal Reserve Economic Fata (FRED) (https://fred.stlouisfed.org/series/IRLTLT01GBM156N) and Style Analytics Markets Analyzer
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