Value Investing in a Recovery-Driven Market: Rebuilding the Case for Core-Value Strategies

The cyclical resurgence of value investing has long been a defining feature of financial markets, yet its recent absence has left many investors unprepared for its return. As the global economy navigates the aftermath of a post-cyclical upturn, the repositioning toward large-cap core-value strategies is not merely a tactical shift—it is a structural recalibration rooted in historical patterns and evolving macroeconomic dynamics.

The Historical Case for Value in Recoveries

Value stocks have historically outperformed growth stocks during periods of economic recovery, particularly when inflation and interest rates rise. This pattern is evident in the 2003–2005 and 2009–2011 recoveries, where earnings growth and valuation expansion drove value returns. For instance, in 2003, the Russell 1000 Value Index delivered a 29.9% total return, with 18.0% attributed to earnings growth alone. Similarly, the 2009 rebound saw valuation expansion account for nearly all of the 28.4% return, as investors flocked to undervalued equities amid collapsing growth stock valuations.

However, the 13-year anomaly from 2007 to 2020—marked by near-zero interest rates and aggressive monetary easing—disrupted this pattern. Growth stocks, particularly in technology, thrived on speculative valuations, while value sectors like industrials and financials languished. The turning point came in late 2020, when the Pfizer vaccine announcement signaled a path to economic normalization. Since then, the MSCI World Value Index has outperformed its growth counterpart by over 15%, reversing a decade of underperformance.

The 2025 Landscape: Earnings Momentum and Valuation Gaps

The current environment in 2025 presents a compelling case for value investing. Large-cap value stocks are trading at a 63% valuation discount to growth stocks on a normalized price-earnings basis—a historically wide spread that suggests a margin of safety. This gap is even more pronounced than during the peak of the 2000 technology bubble, when growth stocks were similarly overvalued.

Earnings growth has also become a critical driver. In Q2 2025, 79% of S&P 500 companies exceeded earnings estimates, with the Information Technology and Communication Services sectors leading the charge. For example, Microsoft's AI-driven cost savings of $500 million and IBM's 200 basis points of margin expansion highlight how productivity gains are fueling value sectors. Meanwhile, the effective tariff rate of 8% (as of June 2025) has been absorbed by corporations and foreign exporters, limiting its drag on earnings.

Structural Tailwinds for Value

Three structural factors reinforce the case for value in a recovery-driven market:

1. Macro Tailwinds: Central banks have begun cutting interest rates as inflation moderates, historically favoring value stocks. Rate cuts support cyclical sectors like financials and industrials, where value stocks are concentrated.
2. Capital Reallocation: Growth stocks, particularly in AI and tech, are trading at a 16% premium to fair value, while value stocks offer a 7% discount. This mispricing creates room for capital inflows into undervalued equities.
3. Earnings Resilience: Value sectors such as financials and utilities have demonstrated stronger earnings momentum. For instance, the S&P 500's 10.4% year-over-year earnings growth in Q2 2025 was driven by value-heavy sectors, contrasting with the underperformance of energy and materials.

Risks and Considerations

While the case for value is strong, risks remain. Trade tensions, particularly the proposed 100% tariff on semiconductors, could disrupt supply chains and earnings. Additionally, the Magnificent 7's dominance in the S&P 500—accounting for $2.2 trillion of market cap gains—means that a correction in these stocks could temporarily hurt the broader market. However, value's lower volatility and earnings stability make it a more defensive bet in such scenarios.

Strategic Repositioning for Sustainable Outperformance

For investors seeking sustainable outperformance, the following strategies are recommended:
1. Sector Rotation: Overweight value-heavy sectors like financials, industrials, and utilities, which benefit from rising interest rates and inflation.
2. Quality Screens: Focus on large-cap value stocks with strong free cash flow and low debt, such as those benefiting from the One Big Beautiful Bill Act's 100% bonus depreciation.
3. Diversification: Avoid overconcentration in overvalued growth stocks while maintaining exposure to AI-driven value plays (e.g., ServiceNow, IBM).

Conclusion

The repositioning into large-cap core-value strategies is not a fleeting trend but a response to enduring market cycles. As the 2025 recovery unfolds, the combination of earnings resilience, valuation spreads, and macroeconomic tailwinds positions value investing as a cornerstone of sustainable outperformance. For those who recognize the cyclical nature of markets, the current environment offers a rare opportunity to capitalize on mispriced fundamentals and structural underrepresentation in equity portfolios.