Growth Likely to Remain Under Pressure
Tim Murray, CFA Capital Markets Strategist, Multi‑Asset Division
Key Insights
  • Equity markets—especially growth stocks—have pulled back meaningfully in 2022, weighed down by looming interest rate hikes and the Russia-Ukraine conflict.
  • The Asset Allocation Committee has moderated the overweight to value stocks, given a less promising economic growth outlook and other factors.

Global equity markets have sold off significantly since the beginning of the year, as investors worry about the implications of Russia’s invasion of Ukraine and an increasingly hawkish Federal Reserve intent on combating persistently high inflation.

Notably, the downturn has been much harsher for growth stocks. Historically, value stocks have fared better in a rising interest rate environment; in particular, for companies in the financials sector—a significant portion of the value universe—rate hikes have often expanded profit margins. Meanwhile, since the investment rationale for growth stocks is based on the expectation of higher future earnings, the value of their future cash flows is diminished when discounted at higher rates.

As we enter the early stages of rapidly tightening monetary conditions, investors may be considering whether growth’s underperformance is likely to continue. We believe that a review of the two asset classes’ price to free cash flow—an equity valuation metric that accounts for a company’s ability to sustainably generate additional revenues—could offer guidance.

A comparison of stock valuations for the Russell 1000 Growth Index and the Russell 1000 Value Index suggests that the valuation gap between U.S. growth and value stocks remains large relative to history. Although the difference has narrowed after the sharp sell-off in growth stocks this year, the gap could, in our view, tighten further as growth-oriented companies are more susceptible to economic uncertainty.

As a result, our Asset Allocation Committee remains overweight to value stocks. However, the allocation was recently moderated as we believe that a supportive boost from rate hikes is likely priced into value stocks following their rally this year, and further upside may be muted going forward. In addition, the economic growth outlook appears less promising as investors weigh the potential impacts of a prolonged conflict in Ukraine.

So far, 2022 Has Been a Difficult Year for Equities

(Fig. 1) Overall, growth-oriented stocks have borne the brunt of the sell-off

Overall, growth-oriented stocks have borne the brunt of the sell-off

Year-to-date performance ended February 28, 2022.

Past performance is not a reliable indicator of future performance.

Sources: Standard & Poor’s, MSCI, and Russell. T. Rowe Price analysis using data from FactSet Research Systems Inc. All rights reserved. See Additional Disclosures.

A Historical Look at U.S. Growth and Value Stock Valuations

(Fig. 2) Despite the recent rout, growth stocks are still more expensive than value

Despite the recent rout, growth stocks are still more expensive than value

15 years ended February 28, 2022.

Past performance is not a reliable indicator of future performance. Cash flow is represented by 1-year forward estimates. Actual outcomes may differ materially from estimates.

1 January 2020 Gap is shown to provide pre-Covid metrics.

Sources: Russell. T. Rowe Price analysis using data from FactSet Research Systems Inc. All rights reserved. See Additional Disclosures.

Additional Disclosures

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MSCI and its affiliates and third-party sources and providers (collectively, “MSCI”) makes no express or implied warranties or representations and shall have no liability whatsoever with respect to any MSCI data contained herein.  The MSCI data may not be further redistributed or used as a basis for other indices or any securities or financial products.  This report is not approved, reviewed, or produced by MSCI.  Historical MSCI data and analysis should not be taken as an indication or guarantee of any future performance analysis, forecast or prediction.  None of the MSCI data is intended to constitute investment advice or a recommendation to make (or refrain from making) any kind of investment decision and may not be relied on as such.

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Important Information

This material is provided for informational purposes only and is not intended to be investment advice or a recommendation to take any particular investment action.

The views contained herein are those of the authors as of March 2022 and are subject to change without notice; these views may differ from those of other T. Rowe Price associates.

This information is not intended to reflect a current or past recommendation concerning investments, investment strategies, or account types, advice of any kind, or a solicitation of an offer to buy or sell any securities or investment services. The opinions and commentary provided do not take into account the investment objectives or financial situation of any particular investor or class of investor. Please consider your own circumstances before making an investment decision.

Information contained herein is based upon sources we consider to be reliable; we do not, however, guarantee its accuracy.

Past performance is not a reliable indicator of future performance. All investments are subject to market risk, including the possible loss of principal. The value approach to investing carries the risk that the market will not recognize a security’s intrinsic value for a long time or that a stock judged to be undervalued may actually be appropriately priced. International investments can be riskier than U.S. investments due to the adverse effects of currency exchange rates, differences in market structure and liquidity, as well as specific country, regional, and economic developments. All charts and tables are shown for illustrative purposes only.

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