Value stocks: what are they?

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Personal Investing

20 April 2021

We look at the definition of value stocks and examine why there are so many of them in the UK stock market.

Some time ago we highlighted the fact that the UK stock market was falling behind its international peers in terms of performance. Brexit worries aside, this was, in part, due to the large number of value stocks which make up a significant portion of the UK stock market index of larger companies, known as the FTSE 100 index.

By way of definition, value stocks are those which typically trade at a lower price to their perceived value or worth.  Generally, value stocks tend to be those of mature companies, with well-established business models.

Because the rate of profit growth tends to be less than those companies which are at the earlier stage of launching their product or service, they generally require less cash to put back into the upkeep of their businesses. As a result, they are often able to distribute some of their profits to shareholders, known as dividends. Examples of value stocks in the UK may include large banks, tobacco companies and airline stocks.

Another major feature of value stocks may be that their profits are sensitive to economic growth. In the case of airlines, for example, profits are much stronger when the economy is in a good state of health, but this can often translate into losses when the outlook for economic growth is depressed.

How do value stocks relate to the fortunes of the UK stock market?

While still trailing behind the performance of some of the other European stock markets since the start of the year[1], the strong showing of value stocks in the UK stock market index has been noticeable over the last couple of weeks.

Value stocks are currently benefiting from the wave of positive economic statistics that have been announced recently. UK retail sales and employment data have, thus far, proved remarkably resilient in the face of the pandemic. Investors believe that the savings UK consumers have amassed over lockdown means those stocks which have been severely hit by the pandemic such as leisure stocks may well see a revival in the fortunes as lockdown measures start to ease.

Because of the international nature of many of these value companies and the fact that a large portion of them derive their earnings from abroad, it’s not just how they perform in their home markets that is important.

Looking at the US, buoyant retail sales and employment figures have also positively surprised investors. In the US, for example, retail sales rose in March by the most in 10 months[2], helped by the rapid rollout of COVID-19 vaccinations and the vast amounts of US government’s relief being injected into the US economy.

Value stocks have long been in the doldrums, particularly as many investors have focused on the prospects of the fast-growing US technology stocks. But the question on many investors lips now is whether or not value stocks will finally have their day in the sun.

 

[1] Source Financial Times, covering period 01 Jan 2021 to 16 April 2021.

[2] Source: Financial Times as at 16 April 2021.

Forward-looking statements are, by their nature, subject to significant risks and uncertainties and are based on internal forecasts and assumptions and should not be relied upon.

Remember, the value of any investment is not guaranteed. The value of investments and any income received from can go down as well as up and you may not get back as much as you had originally invested.