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What Should Asset Allocators Know About Value-Led Market

Our recent research into the small-cap market shows a connection that many asset allocators may not be aware of.

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Asset Allocators
Image source: The Blue Diamond Gallery
Asset Allocators

So, we’ve done some research into the small-cap market, and we found a connection that many asset allocators may not be aware of. In a value-led market, you might lean towards value, but what we found is you also want to lean towards active, because active tends to beat passive in value-led markets.

What’s really relevant about that now is because of the popularity of market-cap-weighted ETF indexes, people may have put a lot of their clients’ money into a strategy that’s set up to underperform.

What should asset allocators be aware of?

So, there’s a subtlety about value-led periods that asset allocators want to be aware of when they’re selecting active strategies. The research that we’ve done shows that value-led periods are more broadly led. More stocks participate in that versus growth-led, would tend to be more narrow.

So, when you’re looking to active strategies, you actually want those that are high active share. You want to be further away from the benchmark. That’s really the opportunity.

Why not just use the value index?

You might be tempted to use the value index. Here’s why we don’t think that that’s a good idea right now. We don’t think that the value in value is equally distributed.

We actually think it clusters around cyclicals. You want to be aware that the small value index has at least 50 percent sensitivity to interest rates.

With yields as low as they are, we think that those stocks are going to have a headwind. We think, and somewhere you want to be is in a value-led period, you want to be in active strategies; you want to be in those with high active share that are leaning towards cyclical stocks.

Article by Steve Lipper, The Royce Funds