Part 1: The Fed tightens—will Apple be hit harder than Exxon?



Growth prevails in the short run, value in the long run

This series examines the risks of maintaining large cap growth exposure (sticking with the current winner) versus large cap value shares (being a contrarian and a long-term investor, like Warren Buffett) in the environment of Fed tapering. The below graph illustrates how large cap value shares (blue line) have outperformed large cap growth shares (grey line) since 1998. That is the typical, long-term norm. However, growth shares were exceptionally strong relative to value shares coming out of the 2008 crisis, and on a post-2008 basis, maintain a small lead over value shares. With the Fed tapering its bond purchases, and a potential end to the Fed’s buying program by the end of the year, rates could increase, and this could have a significant impact on the equity markets. This first article examines large cap value versus large cap growth shares in the context of the current macroeconomic environment and considers the implications for equity investors.

Large Cap Value Versus GrowthTotal Return

For an overview on the four main risk factors for equity portfolio returns, please see the prior series, Key Strategy: Four Key Risk Factors as the Fed Tapers.

As Fed tightens, growth gets the jitters

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Though the above graph reflects strong performance of both growth and value shares since 2008, the below graph reflects that the iShares Russell 2000 Growth index, IWF, has weakened 2.5%relative to the iShares Russell 2000 value index, IWV, since the Fed announcement last week, approximately three percent over the past month.

March 2014Growth and Russell Indices Decline

To see how large cap growth shares like Apple could be at risk relative to large cap value shares like Exxon, please see the next article.

Equity Outlook: constructive macro view

Despite problems in the Ukraine and China, and despite the modest consumption data in the USA, US labor markets appear to be well into recovery—with the exception of the long term unemployed. From this perspective, it would appear that the US is probably the most attractive major investment market at the moment. While the fixed investment environment of the US is still quite poor, corporate profits and household net worth have hit record levels. Hopefully, all of this wealth and liquidity can find their way into a new wave of profitable investment opportunities, and significantly augment the improvement in the current economic recovery. For investors who see a virtuous cycle of employment, consumption and investment in the works, the continued out performance of growth stocks over value stocks could remain the prevailing trend, favoring iShares Russell 1000 Growth Index (IWF), and growth oriented companies such as Google, GOOG, or Apple, AAPL.

Equity Outlook: cautious macro view

Given the China and Russia-related uncertainties, investors may wish to consider limiting excessive exposure to broad equity markets, as reflected in the iShares Russell 2000 Index, IWM, State Street Global Advisors S&P 500 SPDR and Dow Jones SPDRs—SPY & DIA, and iShares S&P 500, IVV. Accordingly, investors may wish to consider shifting equity exposure to more defensive consumer staples-related shares, as reflected in the iShares Russell 1000 Value Index, IWD, such as Wallmart, WMT.


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