A wide gap in Value returns in 2024
Received wisdom is that the Technology sector and Mag 7 dominated market in 2024 resulted in significant underperformance of value stocks. However, there was a variant of value exposure, the ‘Pure Value factor’, that outperformed the FT Wilshire Large Cap US 2024 equity return of 25.2%. By contrast the more traditional Value style exposure underperformed by -8%.
This post briefly outlines how these two approaches to value exposure can deliver such divergent outcomes
Exhibit 1: Mind the gap - In 2024 Pure Value outperformed, while Value Style significantly underperformed
How was such a wide divergence in performance of the Value exposures possible?
A difference in construction methodology
While there is little difference in the valuation metrics utilised to screen stocks (the Value style uses the P/B, P/CF and P/E metrics while the Pure Value factor uses the same three metrics plus P/S). The difference resides in the approach to sector exposure, intra sector stock selection and the avoidance of unintended distorting exposures.
The traditional Style approach uses the valuation metrics to apply a single tilt that over weights value stocks but does not account for other factor exposures or active sector bets that may result from this.
On the other hand, the ‘Pure’ approach applies a sector neutral and multiple tilting methodology to weighting stocks. This is designed to eliminate the big tail of unintended exposures captured in the style approach by employing extra tilts neutralize other (non-value) factor exposures and to correct for sector weight deviations from the underlying US Large Cap index.
This leads to radically different Sector and Stock exposures and performance attribution.
In terms of sector allocation Exhibit 2 shows that relative to the Large Cap index Value style embeds significant sector skews (notably the underweighting in the Technology sectors). By contrast the Pure Value approach maintains sector neutrality.
Exhibit 2: Sector exposure contrast: Value Style has taken big sector bets; Pure Factor is sector neutral
Contrasting the sector and stock performance attribution effects for the Value exposures
We highlight in exhibit 3 that the Value Style incurred a significant double whammy with the Tech sector underweighting delivering -3.8% contribution to excess return. The stock selection effect contributed an additional -3% of aggregate underperformance. This means the Tech sector alone accounted for -6.8% aggregate contributions in 2024.
By contrast the Pure Value factor had no sector allocation contributions (due to its sector neutrality) but benefitted from a positive stock selection excess return in the Technology sector of +1%.
Exhibit 3: Comparing the sector weighting and stock selection performance attribution for Value Style and Pure Value vs US Large Cap in 2024
Doing a ‘Deep dive’ into the Tech Sector stock selection impact
In Exhibit 4 we contrast the Tech sector stock selection between the Value Style and the Pure Value Factor. We highlight the significant difference in positioning in Nvidia between the Style and Pure Factor.
Comparing the combined contributions from the top five tech stocks, Pure Value saw a + 2.25% return while the Value style only delivered a +0.3% return.
More importantly, the combined contribution for the bottom five tech stocks shows the Pure Value incurred a drawdown of just -0.9% while the Value Style saw a contribution of -7%.
Both value approaches produced a lower combined PE for the top five versus bottom five tech stock contributors demonstrating intra-sector valuation screening.
Exhibit 4: Comparing the Top vs Bottom 5 tech stock contributions for Pure Value and Value Style
The consequence of the Value Style methodology is that it incorporates a long tail of unintended factor exposures
In Exhibit 5 we employ a factor attribution to show how in 2024 these exposures caused notable Size, Momentum and Beta drags on performance. The Pure Factor is engineered to minimise these unintended factor exposure distortions.
Exhibit 5: Value style was negatively impacted by the exposure to unintended factors in 2024 – these are eliminated in the Pure Value methodology
The Pure Value methodology also delivers persistently lower aggregate PE valuations compared to the Value Style approach
Over the last 10 years the PE ratio valuation for Pure Value has traded at a discount to the PE of the Value Style. This has resulted in the Pure Value PE relative trading at a 35% discount to the PE of the FT Wilshire US Large Cap index. By contrast the Value Style PE stands at a 25% discount. There have been periods such as 2018 and 2023 when the Pure Value discount has approached 45%.
Exhibit 6: Comparing the absolute PE valuations of the Pure Value and Value Style
Exhibit 6 (contd): Pure Value and Value Factor relative PE comparisons
All Sources: Wilshire Indexes. Data as of December 31, 2024.
