By Philip van Doorn
Value stocks have been performing better than growth stocks over the past month, but they still look unusually cheap
There are plenty of arguments for why the bull market for U.S. stocks will continue in 2022. But investors' focus appears to have shifted recently in favor of value stocks, rather than the growth stocks that have been propelling the broad indexes to record highs.
To be sure, we have seen many short periods over the relatively recent past where there has been a rotation to value, only to see the stock market revert to its growth focus.
But this time may be different.
One reason is that the Federal Reserve is planning to stop its extraordinary net purchases of U.S. Treasury bonds and mortgage-backed securities in March. The Fed's years of bond buying ballooned its balance sheet while increasing the money supply and holding-down long-term interest rates, which in turn pushed investors seeking income to move money into the stock market.
The minutes of the Federal Open Market Committee's meeting on Dec. 14-15 were released on Jan. 5. They indicate that some members of the committee want the Fed to go further then ending the net bond purchases. Some committee members want the Fed also to stop replacing bonds in its portfolio as they mature, to shrink the central bank's balance sheet. This would put further upward pressure on interest rates.
Read:Here's what stock and bond market strategists say after Fed minutes point to the end of easy money
In a rising-rate environment, money may flow out of the stock market, putting pressure on some of the highest-flying stocks that trade at high valuations.
Read:Federal Reserve could invert Treasury yield curve by third quarter as it delivers rate hikes, economists say
Michael Brush expects the bull market to continue this year, but he also lists eight cheap stocks favored by various newsletters.
Below is a look at relative valuations for value and growth stocks along with a list of value stocks favored by analysts working for brokerage firms.
Value vs. growth
For starters, keep in mind that the broad stock indexes are weighted by market capitalization. That favors growth stocks. The five largest companies in the benchmark S&P 500 index -- Apple Inc. (AAPL), Microsoft Corp. (MSFT), Amazon.com Inc. (AMZN), Alphabet Inc. (GOOGL)(GOOGL) and Tesla Inc. (TSLA) -- make up 23% of SPDR S&P 500 ETF (SPY).
For the following valuation comparisons, we're using the Russell 1000 index for a broader look at the 1,000 largest companies that equal about 90% of the U.S. stock market by capitalization.
FTSE Russell divides the Russell 1000 into two overlapping groups: The Russell 1000 Value Index includes 848 companies in the Russell 1000 that have lower price-to-book ratios and lower expected growth rates, while companies with a combination of lower composite value score and higher expected growth rates are included in the Russell 1000 Growth Index , which has 499 companies. You can read FTSE Russell's descriptions of the makeup and scoring for its indexes here.
A look at exchange-traded funds that track the full Russell 1000 and its growth and value subsets shows that on a relative basis, value appears especially cheap:
ETF Ticker Forward P/E 20-year average forward P/E Current valuation to 20-year average Current valuation to full Russell 1000 20-year average valuation to full Russell 1000 iShares Russell 1000 ETF IWB 19.29 15.73 123% iShares Russell 1000 Growth ETF IWF 27.03 18.54 146% 140% 118% iShares Russell 1000 Value ETF IWD 14.58 13.72 106% 76% 87% Source: FactSet
All three groups are trading at forward price-to-earnings valuations above their 20-year averages, but the value group is doing so to a much smaller extent.
When looking at valuations for the growth and value groups relative to the full index, the growth group is trading much higher than the average, which is no surprise, while the value group is trading well below its 20-year average.
Screening the value stocks
We can pare the Russell 1000 Value Index by limiting the group to the 248 companies with forward price-to-earnings ratios below that of the index. Doing this also limits the groups to companies expected to be profitable over the next reported four-quarter period.
Among the 248 stocks, here are the 20 rated "buy" or equivalent among at least 75% of analysts polled by FactSet that are expected rise the most over the next year, based on consensus price targets:
Company Ticker Forward P/E Share "buy" ratings Closing price -- Jan. 4 Consensus price target Implied 12-month upside potential Lithia Motors Inc. LAD 8.1 86% $297.91 $469.92 58% Jazz Pharmaceuticals Public Limited Co. JAZZ 8.4 90% $129.64 $199.58 54% Victoria's Secret & Co. VSCO 9.1 82% $57.18 $82.73 45% EQT Corp. EQT 9.6 75% $22.41 $31.57 41% OneMain Holdings Inc. OMF 5.8 88% $52.27 $72.73 39% Vontier Corp VNT 10.7 77% $30.99 $42.45 37% Herbalife Nutrition Ltd. HLF 10.0 100% $41.85 $57.25 37% Darling Ingredients Inc. DAR 13.2 100% $71.04 $96.79 36% Ally Financial Inc. ALLY 6.8 86% $49.74 $66.00 33% Olin Corp. OLN 6.0 83% $56.21 $73.87 31% Equitable Holdings Inc. EQH 5.6 92% $34.45 $45.00 31% Gates Industrial Corp. PLC GTES 12.6 75% $16.70 $21.67 30% Boyd Gaming Corp. BYD 13.2 82% $64.99 $83.80 29% Western Alliance Bancorp WAL 12.3 92% $115.20 $144.00 25% Nexstar Media Group Inc. Class A NXST 7.4 82% $151.97 $187.67 23% Assurant Inc. AIZ 14.3 100% $157.74 $194.67 23% NCR Corp. NCR 13.6 89% $42.95 $53.00 23% Travel + Leisure Co. TNL 13.7 80% $58.60 $72.20 23% Synchrony Financial SYF 8.1 77% $48.16 $58.74 22% East West Bancorp Inc. EWBC 13.5 92% $82.20 $100.18 22% Source: FactSet
You can click the tickers for more about each company.
Then read for Tomi Kilgore's detailed guide to the wealth of information available for free on the MarketWatch quote page.
Don't miss:23 dividend stocks that can pass this strict quality screen
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-Philip van Doorn
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01-08-22 1329ETCopyright (c) 2022 Dow Jones & Company, Inc.