Pro Perspectives 10/27/22

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October 27, 2022
The Fed spent much of last year denying the obvious inflationary pandemic response from policymakers, and the subsequent evidence of that inflation.
That inflation denial by the Fed, gave the Democrat-controlled Congress the ammunition it needed to push through additional fiscal spending. 
Only AFTER Jerome Powell, the Fed Chair, secured a reappointment from Biden, did the Fed flip the switch and start talking about aggressively taming inflation. 
When that switch flipped for the interest rate outlook, it also flipped on the valuation of the high flying, high growth tech stocks.
Why?  As Warren Buffett once explained (my paraphrase), at zero interest rates into perpetuity, the valuation on the stock market is essentially infinite.   There are no alternatives.  Those that are required to earn a return (like pension funds), are forced to reach for return (by taking more risk).
Driven by this dynamic, the high return FAAMG stocks (Facebook, Amazon, Apple, Microsoft and Google), became the favored investment of the professional investment community — to such a degree that it represented nearly a quarter of the valuation of the S&P 500 at one point last year.   
But now we have interest rates.  Now there are alternatives. The Treasuries inflation bond is paying over 9%.  And as Wall Street analysts are plugging a much higher discount rate (interest rate) into their cash flow models, they are getting a lower price target (in some cases, much lower). 
This rising interest rate environment (especially from zero) is most damaging for growth stocks, which is why we entered the year expecting a transition in favor from growth stocks to value stocks. 
Indeed, if we look at the Vanguard Value ETF (VTV), it's outperforming the Growth ETF (VUG), down 8 percent vs. down 31 percent.
With that, we've looked at this chart many times in my daily notes, in anticipation of this shift from growth to value. 

As you can see, the last time value was this cheap, relative to growth stocks, value went on a nearly 10-year run of outperformance.
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