Sector Update: Energy Stocks Gain Late Afternoon

(20:04 GMT) Liberty Energy Price Target Raised to $22.00/Share From $19.00 by Citigroup

By Jacob Sonenshine

Growth stocks have crushed value. That doesn't mean there is much value in the latter group of stocks.

The Vanguard S&P 500 Growth Index Fund is up about 111% in the past five years, with most of the gain coming since the fourth quarter of 2022. That is when Big Tech companies started to roll out artificial-intelligence products and services, spurring higher earnings growth and boosting their valuations.

Value stocks just haven't been able to keep up. The Vanguard S&P 500 Value Index Fund has underperformed its growth counterpart since the fourth quarter of 2022, and is well behind it over the past five years, with a gain of only 48%.

In theory, that makes a reversion to the mean for value stocks appear likely. Many of these companies are, of course, producing profits and distributing some of them to shareholders, so at some price, buyers should rush in. That could boost the stocks so that their performance versus growth improves and moves back to "normal."

The reality may well be different.

Data from Martin Fridson's market research site Income Securities Investor make the point. Between 2004 and 2014, growth's annualized total return outpaced value's by 1.8 percentage points, theoretically setting up value for outperformance. But from 2014 through 2024, growth won again, beating value's annualized total returns by 5.3 percentage points. Value's resurgence never materialized.

One counterargument, that value is trading so cheaply compared with growth that money will flow out of growth and into value, doesn't hold much water. The value fund closed 2024 trading at about 16 times expected aggregate earnings for this year, about 40% below the growth fund's roughly 27 times. In the past decade, value has averaged a 30% discount to growth, according to Barron's calculations based on FactSet data.

That makes value stocks appear relatively attractive. If many of those companies' earnings meet or beat analyst's forecasts, proving to the market that they are more valuable than their prices would suggest, the stocks could perform handsomely.

But lower valuations aren't a surefire indicator that value will flourish. Growth stocks do have a negative 0.73 correlation between their valuations and their pure price performance, according to Fridson. That means the higher their growth price/earnings multiples move, the worse the stocks perform. As growth multiples fall, the stocks perform better.

But value's correlation isn't so strong, with a negative correlation of 0.37 between price/earnings multiples and performance. Simply put, just because value stocks are trading more cheaply doesn't mean they are bound to become stellar performers.

That perspective has its place in today's market. Companies in the value bucket largely aren't disruptive technology businesses that are launching new trends and rapidly increasing their sales and earnings. The value exchange-traded fund's top 10 holdings include JPMorgan Chase, Bank of America, Exxon Mobil, and Chevron — companies that have already achieved much of the growth they are likely to. Others are struggling because their products haven't kept pace with competition in their industries.

Earnings gains for the group just can't keep pace with stocks in the growth bucket. Aggregate earnings for the value ETF are expected to grow about 11% annually over the coming two years, according to FactSet, because the economy is expanding enough to support some gains. But earnings for the growth ETF are expected to rise about 16% annually.

The Nvidias and Amazon.coms of the world are rapidly increasing their sales as demand for AI chips and cloud-computing capacity ramps up. That means growth stocks should rise faster than value as long as the latter group doesn't see a sudden boost to their price/earnings multiples.

"The U.S. is undergoing a New Industrial Revolution, where technological innovation sustains higher earnings growth, benefiting growth stocks disproportionately," wrote Fridson. "This perspective challenges the assumption that value investing is bound for a resurgence."

Sure, some value stocks are truly undervalued, but finding them may require rigorous research to identify the few companies that will prove the market wrong. Investors who haven't done that work should keep a lot of their money in the growth powerhouses.

Write to Jacob Sonenshine at jacob.sonenshine@barrons.com

This content was created by Barron's, which is operated by Dow Jones & Co. Barron's is published independently from Dow Jones Newswires and The Wall Street Journal.

Energy stocks were higher Tuesday afternoon, with the NYSE Energy Sector Index and the Energy Select Sector SPDR Fund (XLE) each climbing 1.6%.

The Philadelphia Oil Service Sector index rose 1.3%, and the Dow Jones US Utilities index was fractionally higher.

Front-month West Texas Intermediate crude oil was rising 1.2% to $74.44 a barrel while the global benchmark Brent crude contract was advancing 1.2% to $77.22 a barrel. Henry Hub natural gas futures were falling 4.7% to $3.50 per 1 million BTU.

In corporate news, Liberty Energy shares gained 1.8% after it said Tuesday it signed a memorandum of understanding to provide power systems to direct current equipment supplier DC Grid for clients operating data center shelves and charging hubs for electric vehicle fleets.

Exxon Mobil is suing California Attorney General Robert Bonta and several environmental groups, alleging they defamed and disparaged the company's plastics recycling initiatives, according to a complaint filed Monday. Exxon shares were rising 1.5%.

Phillips 66 said late Monday it has agreed to buy EPIC Y-Grade GP and EPIC Y-Grade LP, which own long-haul natural gas liquids pipelines, fractionation facilities and distribution systems, for $2.2 billion in cash. Phillips 66 shares were edging 0.2% lower.