Introduction
The market optimism that defined the past two years could be starting to fade, with investors growing increasingly wary of elevated stock valuations and macroeconomic and policy uncertainty. Bearish sentiment among individual investors reached its highest level since 2023, fueled by concerns over trade policy shifts, persistent inflation, and dwindling expectations for interest-rate cuts1.
At the same time, the S&P 500 surged 23% in 2024, driven heavily by a concentrated group of mega cap tech stocks. However, as many of these companies now appear stretched in valuation by historical standards, it seems some investors are reconsidering their exposure to growth stocks, with many concluding that now is the time to rebalance portfolios. Many are shifting toward large-cap value stocks for their inherent stability, steady cash flow, and more attractive valuations.
Indeed, value stocks have led the market at the start of 2025, though growth retains a long-term edge. This rotation suggests that investors are seeking higher-quality holdings with solid fundamentals—companies that can manage uncertain economic conditions while continuing to generate strong cash flows.
Fundamentals Take Center Stage
In today’s investment landscape, quality matters more than ever. Companies with strong balance sheets, robust earnings, and consistent cash flows are better positioned to withstand market volatility. Large-cap value stocks—particularly those in defensive sectors such as consumer staples, healthcare, telecommunications, and utilities—have historically demonstrated resilience in economic downturns.
Financial stocks have been among the best-performing sectors in early 2025, benefitting from higher interest rates, favorable valuations, and a more constructive capital markets backdrop. In contrast, the highly valued tech sector, which fueled much of 2024’s rally, has started to show signs of fatigue, prompting some investors to seek a more defensive posture through value-oriented stocks. The chart below highlights the broadening of the markets returns over the last ~6 months.
Source: Bloomberg
Value Stock are seeing an earnings inflection
Earnings growth dynamics between the Russell 1000 Value (RIV) and Russell 1000 Growth (RIG) are shifting, drawing renewed attention from many investors. While the RIG continues to outpace RIV in terms of absolute earning growth (estimated at 16-17% in 2025 for the R1G), the gap has narrowed significantly, with the RIV estimated to post roughly 12% earnings growth in 2025. This marks a clear inflection point for value stocks - the RIV’s earnings trajectory is strengthening at a time when RIG’s growth is decelerating.
Source: FactSet.
Notes: Calendar Years ending in E indicate estimated EPS Growth
Yet, valuation disparities remain stark, with RIV trading at nearly a 50% discount on EV/EVITDA basis. This dynamic suggests a potential opportunity for value stocks, particularly as investors seek earnings stability at attractive valuations.
Source: FactSet as of 2/20/2025
Note: EV/EBITDA NTM – Enterprise Value (EV) to Earnings Before Interest, Taxes, Depreciation, and Amortization (EBTIDA) on a Next Twelve Months (NTM) basis. This measures a company’s total value relative to its expected EBITDA over the next year, providing insight into its relative valuation compared to peers.
Avoiding Value Traps: The Importance of Earnings Quality
Not all “cheap” stocks are good investments. One of the biggest mistakes in value investing is falling into a value trap—stocks that appear undervalued but lack the fundamental strength to recover.
Historically, investors relied on price-to-book (P/B) ratios to identify undervalued stocks, but in the modern economy, this approach has limitations. A better metric for assessing value today is price to cash flow, which considers a company’s ability to generate cash relative to its valuation.
Many companies in traditional value sectors generate substantial cash flow which allows them to reinvest in their business to gain market share and extend their competitive advantages. The costs to compete are ever-increasing, disadvantaging smaller players.
Where to Find Quality in Today’s Market
Several sectors stand out as prime opportunities for value investors in 2025:
- Financials: Benefiting from higher interest rates and improving loan margins, well-capitalized banks and insurance companies are offering strong dividend yields and solid earnings growth. A more constructive capital markets backdrop is also favorable for this sector.
- Healthcare: As an essential industry with steady demand, healthcare companies provide stability and are increasingly leveraging AI and innovation to drive future growth.
- Manufacturing: offers many second derivative ways to gain exposure to some of the biggest themes in the market, such as AI, global electrification and de-carbonization, manufacturing onshoring and supply-chain security
Conclusion
As investors reassess their market positioning in 2025, the case for quality value investing seems to be increasing. With growing concerns about stretched growth-stock valuations and increased uncertainty surrounding macroeconomic policy, many are turning to large-cap value stocks for their stability, and attractive valuations.
By focusing on strong fundamentals and avoiding value traps, investors can navigate today’s market complexities while capitalizing on the long-term potential of value stocks. Now may be the time to consider rebalancing portfolios and ensure exposure to high-quality, fundamentally strong investments that can weather whatever lies ahead.
As an investment advisor, you can provide additional insights and value to your clients on these emerging trends to help confirm your daily attention to their investment portfolios and position them for the successful outcomes you have crafted for them.
