How to Avoid Value Traps

SPVM allocates nearly 32% of its weight to financial service stocks. Conversely, the new ETF’s smallest sector weight is energy, which is this year’s worst-performing and most expensive sector in the S&P 500.

Value stocks have historically outperformed growth stocks, or companies with high earnings expectations, in almost every market over the long-haul. For instance, the MSCI USA Value Index has outperformed the MSCI USA Growth Index by an annualized 81 basis points since 1974 through September 2015.

“Another interesting case of a value trap can be found in the energy sector. (Given the high volatility of energy P/E ratios, I use price-to-book ratios in this example.) On a price-to-book basis, the spread between the S&P 500 Index and the S&P 500 Energy Index went from 0.10 in April 2011 to -1.04 by the end of January 2015. Despite these low valuations, the price of the S&P 500 Energy Index retreated another 24% over the ensuing 12 months. So, even though the energy sector had become more attractively priced, energy prices continued to drop — again highlighting the difficulty in discerning value. By contrast, the S&P 500 Index declined only 3.1% across this same period,” according to PowerShares.

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