The Investment Scientist

Equity Investing: Value vs. Growth in U.S. and International Markets

Posted on: December 2, 2009



In their seminal paper “The Cross-section of Expected Stock Returns,” Fama and French demonstrated

that value stocks had outperformed growth stocks in the U.S. markets since 1963 (when CRSP data became available). They called this phenomenon the Value Premium.

Fischer Black, the co-inventor of the Black-Scholes option pricing formula, suggested that the Fama and French results might be specific to the period (from 1963 to 1990) examined. In his opinion, the Value Premium is unlikely to repeat in the future.

The debate has important ramifications for investors who want to use the Value Premium to improve their investment returns. To find out if Black is right, I examined both the pre-1963 and post-1990 U.S. stock market data for evidence of the Value Premium.

I used the data available in French’s data library. Specifically, I compared two portfolios:

* Lo 30: Stocks with the lowest 30% book-to-market ratio (growth portfolio)
* Hi 30: Stocks with the highest 30% book-to-market ratio (value portfolio)

The results are presented in the following table:

Table: Average returns of growth and value portfolios

Sample period Lo 30 Hi 30 ValuePremium Note
1927-1963 11.57% 16.69% 5.12%
1963-1990 10.53% 17.16% 6.63% Fama/ French research sample
1990-2008 10.07% 12.99% 2.92%

It is clear that the value premium was present before 1963. After 1990, it continued to be present in the market, though at a reduced magnitude.

Fama and French did a study of international stock markets to find evidence of the Value Premium. The following results are taken their paper “Value vs Growth: The International Evidence.”

Table: Average returns of international growth and value portfolios based on MSCI data of 12 EAFE countries

Sample period Lo 30 Hi 30 ValuePremium Note
1975-1994 6.97% 14.57% 7.6%

The evidence convinces me that the Value Premium is prevalent and persistent. Are you convinced? Please share your thoughts with me.

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1 Response to "Equity Investing: Value vs. Growth in U.S. and International Markets"

I think the fundamental principle of High cost of capital and liquidity factors are pervasive for high book-to market and low market capitalization stocks across all economies.

But two major implications in the context of US is relatively expansionary monetary policy since mid 1990s. Another approach may be in terms of Investor sentiment point of view, where research shows that investor sentiment is more prevalent for small and hard to value firms.

In the similar line it is most intuitive to analyse hoe the size and value premiums will behave in the post liberalisation of an economy. As most of the emerging markets are liberated since 1990s the pace of capital market liberalisation will be different, so also its implication towards pricing of assets. For instance in case of India andf Malaysis where there is a greator difference between the active bond market, the size and value premiums must be show a different implication. In simple words market structure must have an implication towards value and size premiums.

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Michael Zhuang is principal of MZ Capital, a fee-only independent advisory firm based in Washington, DC.


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