Senior Portfolio Manager Mark Donovan, CFA, explains how the end of the Fed’s zero interest rate policy refocuses attention on value and active management.
Catalysts in Play: The Federal Reserve’s zero interest rate policy (“ZIRP”), which was a powerful force fueling speculation over the past several years, is effectively coming to an end, which means the next decade for investors isn’t likely to be the same.
Entry Points: ZIRP gave investors a reason to ignore valuations, with multiples for many tech stocks reaching astounding levels. The ARK Innovation ETF represents a poster child of this era, investing in companies based on predictions of what they might do in the future, even if they are losing money today. Though valuations don’t always drive the markets in the short run, prices do matter in the long term, especially once speculation comes to an end.
- Lessons of the Dotcom Bubble. The bursting of the Internet bubble in 2000 showed that tech is no different from any other part of the market. Back then, companies like Cisco and Intel achieved peak valuation levels and, in many cases, never returned to those multiples, demonstrating that even large, household names are not immune from capitalism’s competitive forces. Investors in today’s market have become too complacent about the moats surrounding the biggest stocks. That could change going forward.
- The End of ZIRP: The Fed’s change in interest rate policy in 2022 was the catalyst that broke the back of the speculative end of the market, with a large percentage of high-multiple stocks falling 50% or more in the calendar year.
- The Road Ahead: While the Fed will pause in the summer to see how successful rate hikes have been at driving down inflation, we’re a long way from rate cuts, even if investors are hoping for a quick Fed pivot. Meanwhile, the probability of a recession is relatively high now given credit tightening, reduced fiscal stimulus, and the lagged effect of Fed rate increases to soften the economy.
Active Strategy: This landscape sets up opportunities for active management and value investing. Due to the top-heavy nature of the S&P 500, in which five names now account for nearly a quarter of the index, success is being determined by the performance of that handful of companies. This is an opportunity for active management with an analytic edge to find neglected or overlooked stocks at a bargain.
At Boston Partners, we look for a combination of strong business fundamentals, attractive valuation, and positive business momentum. To us, these are the three laws of investment physics. We believe our focus and unwavering discipline around these principles give us an analytic edge over competitors.
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Definitions:
S&P 500 Index: The Standard and Poor’s 500, commonly called the S&P 500, is a stock market index tracking the stock performance of 500 of the largest companies listed on stock exchanges in the United States.
Disclosures:
Boston Partners Global Investors, Inc. (“Boston Partners”) is an Investment Adviser registered with the Securities and Exchange Commission under the Investment Advisers Act of 1940. Registration does not imply a certain level of skill or training. Boston Partners is an indirect, wholly owned subsidiary of ORIX Corporation of Japan (“ORIX”). Boston Partners updated its firm description as of November 2018 to reflect changes in its divisional structure. Boston Partners is comprised of two divisions, Boston Partners and Weiss, Peck & Greer Partners (“WPG”).
The views expressed reflect those of Boston Partners as of July 14, 2023. Any such views are subject to change at any time based on market and other conditions and Boston Partners disclaims any responsibility to update such views. Discussions of market returns and trends are not intended to be a forecast of future events or returns.
Estimates reflect subjective judgments and assumptions. There can be no assurance that developments will transpire as forecasted and that the estimates are accurate.
