Finding Value in a Low Rate World

9 Dec 2019

Given the strong performance of the growth style of investing over the past 20 years, funds that have a bias towards value investing have been more likely to underperform. A key driver of growth has been the falling interest rate environment, however, what happens when rates approach their baseline? Does this change the divergence between value and growth? In our latest sector report: International Shares – Long/Short, we have found that there is evidence of value outperforming in a low rate world and believe a value allocation can be highly beneficial for an investor’s overall portfolio.

Enter Japan

To assess how shares will perform in an environment where interest rates and bond yields hover near zero, we scoured the history books to identify an economy that has experienced a sustained period of low-interest rates. Japan proved to be the perfect case study. The chart below shows Japan’s 10-year bond yields over the past two decades.

Long-term bond yields have remained persistently low (below 2%) over the past two decades. A lack of Japanese growth and inflation has prompted market participants to revise the prospects of the economy downwards. Despite comprehensive monetary stimulus from the Bank of Japan, with cash rates near zero or below zero for the entire period, Japan’s economic activity has stagnated.

How did the value and growth investment styles perform in Japan over this period?

The chart below highlights the performance differential between the value and growth investment styles in Japanese shares since 1999.

Period

1 year (ann.)

3 year (ann.)

5 year (ann.)

10 year (ann.)

20 year (ann.)

Value

-6.4%

5.2%

4.4%

4.3%

3.0%

Growth

-7.8%

9.6%

6.4%

8.7%

0.1%

Difference

1.4%

-4.4%

-2.0%

-4.4%

2.9%

Interestingly, value outperformed growth by 2.9% p.a. in Japan over the past two decades, almost the opposite of what has played out in other global markets over the same period.


What are the implications for portfolio construction?

While the current market environment has been supportive of growth as an investment style, there is evidence that value investing can work in a low interest rate environment, an environment that appears on the horizon for global markets. As such, we believe that it is crucial for investors to blend value and growth investment styles to gain a balanced portfolio outcome.

By Jacob Smart, Senior Investment Analyst

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