Over the past year, investors have experienced one of the most narrow, one-way, momentum-driven markets in financial history.

The rise of the so-called “Magnificent Seven” tech stocks, driven in part by the AI rush, caught the attention of growth-oriented investors. In 2023, these seven stocks returned between 48% and 237% compared to the 23% return for the MSCI World Index. By the end of 2023, the Magnificent Seven represented a whopping 28.3% of the S&P 500 Index, even though they comprised just 16.8% of the Index earnings.

By contrast, Financials were just 13.2% of the S&P 500 Index despite contributing 21.6% of the Index earnings. The top 10 stocks as a percentage of the S&P 500 are now over 30%, a level not seen since the “Nifty Fifty” era of the early 1970s when investors overpaid for quality stocks.

We believe this phenomenon highlights the investor exuberance that sometimes carries equity prices to unsustainable valuations.

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Signals of a turn in sentiment

The tide seems to be turning, as signs are pointing to a turn in investor sentiment.

The Wall Street Journal recently reclassified the “Magnificent Seven” to the “Fab Four,” as three stocks in the group declined in the first three months of 2024 while the remaining four continued to rise. Investors have turned cautious on U.S. rate cut expectations following strong payroll data and stubborn inflation. This month, Minneapolis Federal Reserve President Neel Kashkari said a continued sideways inflation trend “would make me question whether we need to do rate cuts at all,” and Federal Reserve Chair Jerome Powell dialed back expectations for rate cuts in 2024.

This does not come as a surprise to Barrow Hanley, and with these shifts, we see market conditions changing to suit value investing.

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Time to reconsider value

As a true, traditional, value investment manager, Barrow Hanley invests broadly across the entire market, including in cyclical and defensive value stocks. We favor companies that are selling at a discount to intrinsic value with low price-to earnings ratios and high dividend yields. We believe that the combination of below-average market valuation and above-average quality is the true driver of long-term alpha.

Amid what has perhaps been the longest-running growth cycle of our lifetime, market conditions turned in the first quarter of 2024 and now appear to favor our investment style. Just three months after the market bought into a “Goldilocks” scenario, confidence in that outcome is beginning to wane in the face of impediments:

• Inflation isn’t falling as fast as many had hoped and the economy has remained resilient;
• Financial conditions have eased dramatically as the stock market has risen;
• Bond markets revised predicted rates cuts from 6 to 3.

Looking at the past to inform the future, Value investing tends to dominate when inflation is high, economic growth is strong, and rates are elevated. With “higher-for-longer” interest rate expectations and value stocks currently trading at a discount to intrinsic value, we believe this is an opportune time to reconsider your Value portfolio allocations.

Barrow Hanley offers 14 Value Equity Strategies which are differentiated by two distinguishing factors: our process and the professionals who apply it. Contact us to learn more.

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