Why Value ASX Stocks will Continue to Outperform

The fact is investors are gravitating towards value stocks like there is no tomorrow. As fast as they’re buying big dividend-producing stocks, they’re selling out of stocks that are based on blue sky earnings. How can we tell? Look at the performance of our own Blue Chip Value Portfolio, which is shooting the lights out and is now outperforming the benchmark S&P/ASX 200 Index.

If you are interested in learning more about Blue Chip Stocks and how to invest in this area, read more here.

ASX Blue Chip Value Portfolio performance 2022The Index might have declined 8% this year, but many value stocks are up, some more so than others. I’m talking about:

  • AGL Energy (AGL)

  • BHP Group (BHP)

  • Rio Tinto (RIO)

  • Alumina (AWC)

  • CBA, ANZ, & WBC.

The list goes on. Subscribers can just look at the Portfolio holdings on page 4 of Blue Chip Issue 98.

In contrast, stocks where the blue sky was the predominant driver are getting hit much harder than the index. In the US this is led by the tech giants, but even here we’re seeing the BNPL stocks like Zip Co (Z1P) and Afterpay before it got taken over trading at multi-year lows. Let’s not forget Appen (APX), which was marketed as a picks and shovels business to AI. This stock is down 26% at the time of writing and is 16% from where it traded six months ago.

The key point is that blue sky-based stocks, achieving strong sales growth at the expense of profits, trade on momentum and do outperform for seemingly long periods of time. When this ends, stocks that have more dependable earnings and are often paying dividends, and are good value are highly sought after.

It has been proven time and time again that buying these Value stocks when there are periods of uncertainty delivers much stronger returns than surfing blue sky momentum.

There is nothing wrong with growing sales. The point that is often lost is what you pay for that growth. Investors get captivated by this and invariably pay too much. As you have no doubt heard many times before, past performance is no guarantee of the future. This is why the momentum trade falls over, time and time again.

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What Does Value Mean

Value is particularly applicable for Blue Chip stocks because these are companies that produce real earnings AND whose valuations look reasonable. What does that mean? Earnings that translate into cash flow and more often than not into dividends. If the cash flow generated by a business is invested back into that business, it’s invested for growth. This doesn’t always represent value, because for us value means paying me more as an investor than I can get somewhere else.

Look at AGL Energy (AGL), which we cover in BCV Issue 98, following its interim result and the highly publicised $7.50 a share bid from a consortium of Brookfield Asset Management and Mike Cannon-Brookes’ Grok Ventures. Even prior to the bid, this stock was one of the best performers on the ASX in 2022, having been a major laggard in 2021, when it declined almost to 50% before embarking upon an ascent in December, that has seen it return 50% since then. That’s right when you are buying a value stock because you’re minimising the amount you pay, you generate bigger returns quickly.

Let’s be clear, as a coal-fired power station owner with a big stake in the existing infrastructure, AGL is being disrupted and consequently, its earnings are on the decline. But valuation reflects cash flow, while the share price can often reflect sentiment in the form of exhuberance or pessimism. The Blue Chip Value model was saying that the value the market was attributing to AGL was too low, given the cash flow the company is generating. Analyst consensus forecasts might not be wrong. What is evident is that investors en masse are being too pessimistic and weren’t paying enough for the cash flow stream.

We are in the rump of reporting season where more than 2000 ASX-listed companies are opening their hoods for all-comers. In Blue Chip Value Issue 98, we dive deep into 10 Blue Chips and we are seeing value in FOUR of them.


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ABOUT THE AUTHOR

Richard Hemming

Richard Hemming

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Richard is a leading market commentator and expert on ASX Small Caps

www.undertheradarreport.com.au provides investment opportunities in Small Caps that you won’t get anywhere else.

Under the Radar Report is licensed to give general financial advice only (ASFL: 409518). The author does not own shares in any of the stocks mentioned.

Under the Radar Report is licensed to give general financial advice only (ASFL: 409518). The author does not own shares in any of the stocks mentioned.

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