In a recent post, I highlighted an example of what can be missed when using a passive index approach to value. In the consumer staples sector of the S&P500, the long-short returns for Earnings/Price and Sales/Price have diverged massively since the end of March. The divergence happens because of industry effects within the sector. The Earnings/Price strategy is long food and tobacco production, while short food and staples retail. At the same time, the Sales/Price strategy is long food and staples retail, while short household products and food and tobacco production.
From the end of March through the end of September, covered in the previous post, the monthly rebalanced Earning/Price long-short portfolio gained 96%, while the Sales/Price portfolio lost 37%. The chart here, which updates data through October 14, shows that mean reversion is beginning to do its work, as expected. At this point, the Earnings/Price portfolio is up 93%, and Sales/Price is down 36% since the end of March. That large spread should drop to zero over the coming months. Using a value-blend factor or index would miss this opportunity.
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