US equity markets had one of their worst quarters in Q2 2022 as investors continued to digest a hawkish Federal Reserve, higher inflation, weak first quarter US GDP growth, slower growth expectations for China, and the continuation of the Russia-Ukraine war. The S&P 500® Index fell -16.1% in the second quarter, widening the year-to-date drawdown to -23% – a slide of 20.6% from the beginning of the year.1

On top of the broad market rout, the divergence between value and growth was too large for investors to ignore.
  • The Russell 1000® Value Index fell -13.5% compared to -22.2% for the Russell 1000® Growth Index, resulting in a gap of 8.7%.
  • The Russell 2000® Value Index fell -16.1% compared to -20.1% for the Russell 2000® Growth Index, resulting in a gap of 3.9%.2
  • Fund flows also favored value over growth in the first half of 2022. Value ETFs added more than $57 billion in net assets compared to $7 billion into growth ETFs, the largest differential on record.3
Figure 1 dives into the sources of the active performance and risk of the Russell 1000® Value and Growth indices relative to the Russell 1000® Index. As the value and the growth indices combined form the broad market index, their factor exposures and contributions are usually mirror images of each other. From a common factor perspective, the most severely penalized factors were high beta (market sensitivity), high volatility and large cap. Market sensitivity was the largest contributor to the active return of the Russell 1000® Value Index (3.8%), but the largest detractor from the Russell 1000® Growth Index (-3.7%). Value and growth factors on a stand alone basis had marginal contributions.

The value index’s underweight and the growth index’s overweight to size was the second highest contributor, positively to the former and negatively to the latter. The results confirm the notion from a previous article, Index Portfolios Analysis: Looking Through a Factor Lens, which shows that long-only indices inherently have exposures to multiple factors. Here we further demonstrate that the factor describing the index name may not always be the top contributor of return or risk.

Figure 1: Active Performance and Risk of Russell Indices4
Figure 1: Active Performance and Risk of Russell Indices
Source: Axioma Portfolio Analytics, Russell. As of 6/30/2022.

Shifts Between Growth and Value
When investors think of styles or factors, what often comes to mind are securities that embody these properties. But as company fundamentals and security valuations change, so do their factor profiles, memberships and weights in indices. In the following, we use the annual Russell index reconstitution in June to highlight some notable changes:
  • The largest addition to the Russell 1000® Value Index by both size and weight was Meta, which shifted from 100% growth to 79% value.
  • The largest company leaving the Russell 1000® Value Index by size was Costco Wholesale, shifting from 7% value to 100% growth.5
Figure 2 shows the evolution of Meta and Costco over the last few years. Costco’s P/B ratio has been growing consistently over the last ten years, whereas Meta’s P/B ratio has been stable and trending slightly downward. As a result, Costco exited the value index and Meta joined it on June 27, 2022. Meta keeps a small weight in the Russell 1000® Growth Index as it is not 100% value yet. Yet ironically, five or ten years ago, most investors would have categorized Meta as a high-flying growth tech company and Costco as a household consumer staples company.

Figure 2: Index Weight of Costco vs. Meta
Costco - Index WeightMeta - Index WeightCostco - P/BMeta - P/B
Source: Datastream for index weights, FactSet for P/B.

Growth and value indices do not have as much turnover as momentum indices, where membership is determined by short-term relative performance
(6–12 months). Nonetheless, it is important to keep abreast of portfolio holdings within each index, as well as to understand what factors the portfolios are exposed to and how factors contribute to risk and return.
1 FactSet
2 FTSE Russell Index Calculator
3 Blackrock, Markit, Bloomberg. Groups determined by Blackrock, Markit. As of June 30, 2022.
4 Active factor exposure is the average units of standard deviation relative to the benchmark. Active risk is the average predicted tracking error using Axioma US4 medium horizon fundamental risk model.
5 FTSE Russell uses book-to-price as value, and I/B/E/S forecast medium-term growth (2-year) and sales per share historical growth (5-year) as growth. Stocks are ranked by their value and growth scores, which are converted to standardized units. The standardized units are combined to produce a composite value score (CVS). A probability algorithm is then applied to the CVS distribution to assign growth and value weights to each stock. Stocks are fully represented by the combination of their growth and value weights.

(PB) Price-to-Book Ratio: Companies use the price-to-book ratio (P/B ratio) to compare a firm's market capitalization to its book value. It's calculated by dividing the company's stock price per share by its book value per share (BVPS). An asset's book value is equal to its carrying value on the balance sheet, and companies calculate it by netting the asset against its accumulated depreciation.

Russell 1000® Value Index is an unmanaged index that measures the performance of the large-cap value segment of the US equity universe. It includes those Russell 1000® companies with lower price-to-book ratios and lower expected growth values.

Russell 2000® Value Index is an unmanaged index that measures the performance of the small-cap value segment of the US equity universe. It includes those Russell 2000® companies with lower price-to-book ratios and lower forecasted growth values.

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