No matter where you look, asset prices are declining. That means it’s been a challenging year for those looking to park some extra cash in a place where it will actually generate a return, to say the least.
But a Goldman Sachs team, led by chief U.S. equity strategist David J. Kostin, gave some advice for investors looking to navigate these treacherous markets in a Tuesday research note.
Their counsel centers on an age-old question for stock market investors: Which is better, value stocks or growth stocks? Or what if, these days, it’s neither?
Growth vs. value
For the uninitiated, value stocks have lower prices relative to their fundamentals (i.e., revenues, net income, cash flows, etc.) than most publicly traded companies, while growth stocks are priced at much richer valuations because they have growth rates that are significantly higher than the market average.
Lyft is a good example of a growth stock. The rideshare giant is expected to grow sales at a 27% clip this year and is highly valued by the market, but it posted a negative net income in the spring quarter. The company’s growth is the thing to invest in, in other words.
Hewlett-Packard, on the other hand, is a solid example of a value stock. The multinational tech giant’s revenues grew by less than 5% in the spring quarter, but its stock trades at just eight times earnings, compared with the average 13.1 price/earnings ratio for the S&P 500. There’s a lot of reliable value there.
Choosing between value and growth stocks is always a challenge for investors, but in the years since the Great Financial Crisis, growth stocks witnessed an incredible era of outperformance led by high-flying tech firms.
Now though, with the Federal Reserve raising interest rates, the risk of recession rising, and inflation peaking, Goldman says value stocks are about to have their day.
“Current relative valuations within the equity market imply the value factor will generate strong returns over the medium term,” the Goldman team wrote, adding that value stocks should outperform growth stocks by three percentage points over the next year.
Investors may want to be cautious investing in growth stocks moving forward because these equities will need a “soft landing” and a decline in interest rates to outperform the S&P 500, Goldman argues.
On top of that, growth stocks look particularly expensive in terms of earnings and revenue multiples.
“Exceptionally elevated valuations can sometimes be justified by expectations for exceptionally fast earnings growth. However, expectations today—even if proven accurate—do not appear to justify current growth stock multiples,” the Goldman team wrote.
The Goldman strategists also noted that value stocks have historically outperformed growth stocks around the start of recessions. And with most economists predicting a U.S. recession this year, it may make sense to avoid richly priced growth names and seek out value plays.
However, it’s important to note that Goldman’s economists still see just a one in three chance of a U.S. recession over the next year and a 48% chance of a recession by September 2024.
Still, the Goldman team also pointed out that value stocks have historically performed better than growth stocks around peaks in inflation, as measured by the consumer price index (CPI). And Goldman’s chief economist, Jan Hatzius, said in August that he believes inflation has already peaked, even if it’s likely to remain elevated from historical norms through the end of the year.
“Value has outperformed growth in the 12 months following seven of the last eight year-over-year core CPI inflation peaks,” the Goldman team wrote on Wednesday.
Of course, there is another possibility investors might want to consider. Goldman didn’t mention this strategy in its note, and it doesn’t include stocks at all.
A safe haven?
While value stocks may outperform growth stocks over the coming year, many investors are likely unwilling to jump back into the market amid calls from investment banks for more pain ahead.
Morgan Stanley, for example, has repeatedly warned that a toxic economic combination of “fire”(inflation and rising interest rates) and “ice”(falling economic growth) are set to keep equity prices subdued until late 2023.
Many investors have sought to move to cash as a safe haven during these trying economic times, but Ray Dalio, founder of the world’s largest hedge fund, Bridgewater Associates, argues that “cash is still trash” owing to rising inflation.
Mark Haefele, chief investment officer at UBS Global Wealth Management, said in a Wednesday research note that there is another option that may be more profitable.
“Against the current uncertain backdrop, we favor the Swiss franc as the safe haven of choice in foreign exchange markets,” he said. “The nation is less impacted by the European energy crisis than its neighbors, since fossil fuels account for just 5% of electricity production in the country. The currency is also backed by a central bank that is both willing and able to quickly bring inflation back to target.”
The Swiss franc has appreciated more than 7% against the euro since June as rising recession fears continue to drive investors to the safe haven asset. And as Stéphane Monier, chief investment officer for Lombard Odier Private Bank, said in an Aug. 31 article:
“The Swiss National Bank (SNB) is countering rising prices with higher interest rates. Unlike other policymakers, it has signaled a willingness to intervene to keep the Swiss franc strong.”
The Swiss franc also has a history of outperforming the dollar. Since its inception in 1999, the franc has gained 30% against the greenback.