Resurrecting the Value Premium

Abstract

The prolonged poor performance of the value factor has led to doubts about whether the value premium still exists. Some have noted that the observed returns still fall within statistical confidence intervals, but such arguments do not restore full confidence in the value premium. This article adds to the literature by showing that the academic value factor, HML, has not only suffered setbacks in recent years but has, in fact, been weak for decades already. However, the authors show that the value premium can be resurrected using insights that are well documented in the literature or common knowledge among practitioners. In particular, they include more powerful value metrics, apply some basic risk management, and make more effective use of the breadth of the liquid universe of stocks. Their enhanced value strategy also suffers in recent years, but this is largely explained by an extreme widening of valuation multiples similar to the late 1990s. The authors conclude that a solid value premium is still clearly present in the cross section of stock returns.

TOPICS: Analysis of individual factors/risk premia, developed markets, emerging markets, factor-based models

Key Findings

• ▪ The standard academic value factor has been weak for decades already, but we show that the value premium can be resurrected with a more sophisticated approach.

• ▪ Our key enhancements are using more powerful value metrics, applying some basic risk management, and making more efficient use of opportunities in liquid stocks.

• ▪ The enhanced value strategy also suffers in recent years, but this is largely explained by an extreme widening of valuation multiples similar to the late 1990s.