More than a few investors are feeling a little gun-shy right now. Weak economic indicators – including soft employment and low consumer confidence – and ongoing problems in the Eurozone have put many on the defensive.
That’s not necessarily a bad thing. When the market starts to wobble, there is often more downside ahead.
But there’s a big difference between investing defensively and not investing at all. Successful investing is about managing risk – not running from it.
That’s why even investors with little appetite for stocks should be looking at one dirt-cheap sector: large-cap value.
Brandes Institute recently sliced U.S. stocks into 10 deciles by value characteristics and found that value hasn’t just done better. From 1980 to 2010, the cheapest stocks outperformed the most expensive by 575%.
Why does this happen? As a former money manager, I know that investing in value requires patience. That’s something most retail investors – and many small institutions – simply don’t have. They’ll hold a stock or a stock fund a couple quarters and if nothing is happening – especially if growth stocks are doing well – they’ll grouse that they’re sitting on “dead money” and roll into something else, often at precisely the wrong time.
The great global value investor John Templeton used to hold his stock positions an average of seven and a half years. Yet many investors would describe this approach as “From Here to Eternity.”
That’s why value investing is often referred to as “time arbitrage.” It often takes several months (or years) for value investing to work its magic.
Yet now is likely an excellent time to get started. Credit Suisse data reveals that the cheapest stocks in the S&P 500 index based on five metrics, including the price-to-earnings and price-to-sales ratios, have lagged the most expensive ones by 9% this year. And, according to Russell Investment, the last time a value index ranked on top and a growth index on bottom was the disastrous year of 2008.
Every seasoned investor knows that various asset classes go through cycles of outperformance and underperformance. Value has lagged for a very long time – and now offers plenty of upside potential without the neck-snapping volatility of go-go growth stocks.
How to play it? You can research and buy individual value stocks. Or you can take the simple, diversified approach and just buy a fund or ETF. If you prefer the latter route, a good candidate is the Vanguard Value ETF (NYSE: VTV).
VTV tracks the performance of a large-cap, value benchmark: the MSCI US Prime Market Value Index. The fund remains fully invested and uses a passive management strategy (no active trading), so it is relatively tax efficient. The expense ratio here is the lowest in the industry – just 0.12%. And the fund’s 10 largest holdings – which make up almost a third of the portfolio – are companies you know well: Exxon Mobil (NYSE: XOM), Chevron (NYSE: CVX), General Electric (NYSE: GE), AT&T (NYSE: T), Procter & Gamble (NYSE: PG), Johnson & Johnson (NYSE: JNJ), JP Morgan Chase (NYSE: JPM), Pfizer (NYSE: PFE), Wells Fargo (NYSE: WFC) and Intel (Nasdaq: INTC).
In short, the recent sell-off has made value stocks a bargain right now. It’s a great opportunity… if you have the patience for it.