As if there is doubt in anyone’s mind, let us state unambiguously that we are writing this particular missive from the depths of a very painful winter in value-land. Table 1 shows this clearly. On a 1-, 3-, 5-, and 10-year trailing basis, Russell 1000 Value generated solidly negative excess returns, −4.74%, −1.93%, −1.17%, and −1.25%, respectively. In a parallel, though much milder manner, FTSE RAFI US 1000 posted negative excess returns on a 1-, 3-, and 5-year trailing basis. Last year’s performance was very painful indeed at −3.42%, which dragged down the trailing 3- and 5-year excess returns to near zero.
The long-term tracking error (1962–2015) of FTSE RAFI US 1000 relative to the S&P 500 Index was 4.2% annualised,4 not exactly an “extreme” concentrated deep-value strategy. And yet, pronounced cyclicality is a reality. In the warmest of summers, FTSE RAFI US 1000 may outperform by 20% or greater, as it did in the aftermath of the tech bubble or after the darkest hours of the global financial crisis. Nonetheless, even a 4.2% tracking error allows for deep pain, as exemplified by the negative return posted in 2015.
We must remember, however, that seasons come and seasons go. Eventually long winter nights will give way to seemingly endless summer days in which we can enjoy the ripened fruits of seeds planted much earlier. Our notes then will be sun-filled postcards reporting stupendous excess returns. But summer weeks, like their preceding wintry months, succumb to the passage of time—and anchoring on their lost splendour only makes the next winter that much more difficult to tolerate.