Growth vs. value stocks are just one of several ways to classify stocks to help you refine your investing strategy – similar to cyclical vs. defensive; small cap vs. large cap; U.S. vs. abroad; or developed vs. emerging markets. However, the battle between growth and value investing has been going on for years, with each side offering data and statistics to back up its arguments why one investment strategy is better than the other.
If you’re an investor who’s heard of these terms but aren’t sure what they mean, understanding their context is important.
Disclosure: Before making any investment decisions please consult with a financial professional.
What Are Growth Stocks?
Growth stocks are considered by analysts to have the potential to outperform either the overall markets, or a specific subsegment of them, for a period of time.
Growth stocks are companies that have demonstrated better-than-average gains in their share price, revenue, profits or cash flow in recent years – and they’re expected to continue doing so. Although, as with all facets of investing, there are no guarantees.
Typically, growth stocks are smaller, newer companies or industry disruptors.
Investors choose to invest in growth stocks to earn profits from the rapid price growth they offer, rather than the income from dividends.
The Key Characteristics of Growth Stocks:
- Higher priced than the broader market.
- High earnings growth records.
- More volatile than the broader market.
What Are Value Stocks?
Value stocks are usually larger, more well-established companies that are trading below the price that analysts feel the stock is worth, depending upon the financial ratio or benchmark that it is being compared to. Some investors refer to value stocks as stocks that are “on sale.”
The value group may also include stocks of new companies that have yet to be recognized by investors.
Value companies aren’t always focused on growth, so they’re more likely to pay dividends.
Investors purchase value stocks in the hope that other market participants will eventually realize the stocks are undervalued and buy shares, which could eventually drive the stock price up.
The Key Characteristics of Value Stocks:
- Lower priced than the broader market.
- Priced below similar companies in industry.
- Carry somewhat less risk than the broader market.
Growth vs. Value: Performance
Many studies point to value stocks having outperformed growth stocks over long-term periods. However, looking at more recent data, value did overperform for the first 10 years of the 2000s, but growth overperformed over the last 10 years. Take note that dividends likely play a key role in helping value stocks overperform over the longer-periods.
Note that recent performance is no indication of future success.
So Growth or Value… or Both?
History shows that:
- Growth stocks, in general, have the potential to perform better when interest rates are falling and company earnings are rising. However, when the economy begins to decline and the “cheap money” that often fuels fast growth becomes more difficult to obtain, growth stocks can be severely impacted.
- Value stocks, which are often stocks of cyclical industries, typically do well in the early stages of an economic recovery, and their core businesses are self-sustaining enough that they aren’t severely impacted when the broader economy takes a sharp turn. But as a bull market drags on, they become more likely to lag growth stocks.
Because the two investing styles complement each other, investing in a combination of growth and value stocks could diversify your portfolio, potentially allowing you to achieve high returns with less risk. That’s because, in theory, combining the two could allow investors to gain throughout economic cycles in which the general market situations favor either the growth or value investment type, smoothing out the returns over time.
If you’re looking for more guidance on these types of investments, our team of financial advisors are available to answer your questions. You’re welcome to book a complimentary consultation with Bautis Financial below.