Value Factor ETFs Outperform S&P 500: Structural Undervaluation and Cyclical Re-Rating Potential

The Resurgence of Value: A Structural Shift or Cyclical Fluke?

The past two years have witnessed a dramatic reversal in the fortunes of value factor ETFs, with many outperforming the S&P 500 despite macroeconomic headwinds. According to a report by Forbes Advisor, value ETFs like the Fidelity Value Factor ETF (FVAL) and Invesco S&P 500 Momentum ETF (SPMO) have delivered annualized returns of 7.55% and 18.4%, respectively, from 2023 to 2025—far exceeding the S&P 500's 12.9% over the same period The Best Value ETFs Of 2025 – Forbes Advisor^[1]. This outperformance, however, is not merely a function of luck. It reflects a deeper structural undervaluation of value stocks and a re-rating driven by macroeconomic repositioning.

Structural Undervaluation: The Foundation for Re-Rating

Value ETFs have historically traded at discounts to their intrinsic worth, a trend exacerbated by the low-interest-rate environment post-2020. As noted by Research Affiliates, the prolonged underperformance of value stocks since 2007—part of a "longer and deeper drawdown" than historical cycles—has created a fertile ground for re-rating Is Value Investing Structurally Impaired? - Research Affiliates^[2]. This undervaluation is particularly pronounced in sectors like technology and healthcare, where traditional metrics like book-to-market ratios fail to capture the value of intangible assets The Hidden Reasons Behind the Collapse of the Value Factor^[3]. For instance, FVAL's focus on high-growth sectors with sound balance sheets has allowed it to capitalize on this mispricing, delivering robust returns even amid volatility The Best Value ETFs Of 2025 – Forbes Advisor^[1].

The structural discount is further supported by valuation metrics. The Vanguard Value ETF (VTV), with a price-to-earnings (P/E) ratio of 25.9 and a 2% yield, trades at a significant discount to the S&P 500's P/E of 30.3 and 1.3% yield Prediction: These 3 Vanguard ETFs Underperformed the S&P 500 …^[4]. This gap suggests that value stocks are being priced for pessimism, offering a margin of safety for investors willing to ride out short-term turbulence.

Macroeconomic Drivers: Rate Cuts and Sector Rotation

The Federal Reserve's rate-cutting cycle, which began in mid-2025, has accelerated the re-rating of value stocks. Historically, value stocks—particularly large-cap ones with strong cash flows—outperform during rate-cutting periods due to their resilience to interest rate fluctuations Monthly Stock Sector Outlook (2025) - Charles Schwab^[5]. For example, the SPDR Portfolio S&P 500 Value ETF (SPYV), with its low 0.04% expense ratio and exposure to large-cap value stocks, has gained 9.11% over three years, outpacing the S&P 500's 3.7% return in 2025 The Best Value ETFs Of 2025 – Forbes Advisor^[1].

Sector rotation has also played a critical role. The VanEck Semiconductor ETF (SMH), which combines value and momentum characteristics, has surged 24.7% annually over five years, driven by AI demand and macroeconomic stabilization The Best Value ETFs Of 2025 – Forbes Advisor^[1]. Similarly, the Financial Select Sector SPDR Fund (XLF), with a P/E of 17, has benefited from a strong economic environment and favorable interest rate projections Prediction: These 3 Vanguard ETFs Underperformed the S&P 500 …^[4]. These trends underscore how value ETFs are not just reacting to macroeconomic shifts but actively shaping them.

Cyclical Re-Rating: A Long-Term Play

While short-term gains are compelling, the long-term re-rating potential of value ETFs is even more significant. Academic research suggests that the underperformance of value stocks since 2007 may be cyclical rather than structural Is Value Investing Structurally Impaired? - Research Affiliates^[2]. For instance, the Morningstar US Value Index outperformed the US Growth Index by over 9 percentage points in 2025, signaling a potential inflection point Monthly Stock Sector Outlook (2025) - Charles Schwab^[5]. This re-rating is further supported by the historical outperformance of value stocks—$131,534 versus $11,744 for growth stocks since 1926—indicating that the current undervaluation is likely temporary 9 Best Value ETFs to Buy in 2025 for Long-Term Growth^[6].

Investors seeking to capitalize on this re-rating should focus on ETFs with diversified, low-cost exposure to both domestic and international value stocks. The Dimensional International Value ETF (DFIV), for example, offers access to small- and mid-cap value stocks outside the U.S., with a 20.8% one-year return and a 3.56% yield 9 Best Value ETFs to Buy in 2025 for Long-Term Growth^[6]. Such funds provide a hedge against U.S.-specific risks while tapping into global value opportunities.

Conclusion: A Strategic Case for Value

The outperformance of value factor ETFs relative to the S&P 500 is not a fluke but a reflection of structural undervaluation and macroeconomic repositioning. As interest rates normalize and sector-specific tailwinds gain momentum, value ETFs are poised to deliver sustained returns. For investors, the key lies in selecting ETFs that balance low costs, diversified exposure, and sector-specific re-rating potential. In a market increasingly defined by volatility and uncertainty, value investing is proving to be a resilient and rewarding strategy.