Value vs Growth Stocks: Which Is Right for You?
While there’s plenty of debate about value vs. growth stocks, or value funds vs. growth funds, it’s difficult to argue that one is superior to the other, though many have tried.
Growth investors look for companies that are yet to reach scale or their full growth potential, and value investors try to identify companies they believe are undervalued by the market. It’s difficult to say which approach is superior because really, it comes down to timing.
Value and growth have each outperformed the other over certain time periods—the chart below shows the rolling three-year total return for the Russell 1000 Growth and Russell 1000 Value indices since the early 1980’s, with value and growth regularly trading the lead. The lower panel illustrates the spread between the two, with a value above zero representing growth outperformance.
When deciding between value vs. growth investing, you should always consider market timing or cyclicality, as well as your personal investment objectives and time horizon. To help in your decision making, we’ve outlined below the most important characteristics of each approach, how value and growth compare in terms of performance, and several ways YCharts helps you find the best strategy for you.
Characteristics of Value Stocks
Undervalued compared to their peers: Value stocks trade at lower valuations than other companies in their sector or industry, often as a result of negative press or one-off events. When share prices drop but a company’s underlying fundamentals remain strong, value stocks become “affordable” in the short-term, and hopefully lead to long-term gains.
Lower P/E Ratios than the broad market: Even beyond a company’s closest competitors, value stocks are generally lower-priced than the broader market, and especially compared to growth stocks, in terms of price-to-earnings (P/E) ratio. Usually larger and more established businesses, value stocks grow at a modest but consistent clip, and often pay out earnings in the form of dividends.
Less volatile than the broad market: Because value stocks are priced more conservatively, share prices are often less volatile than the market average. But the trade-off to relatively stable prices may be a longer holding period until pay out, so value stocks are well-suited for long-term investors.
Characteristics of Growth Stocks
A track record of earnings and revenue growth: Growth stocks are typically less mature companies that have grown their revenue and earnings at a better-than-average rate in recent years, and are expected to continue doing so. Often, growth companies will ignore profitability to continue fueling revenue improvements. Consistently high growth rates for key top and bottom-line metrics justify their relatively higher valuations. Growth stocks also typically opt to reinvest earnings instead of paying dividends to shareholders.
Higher P/E Ratios than the broad market: Because investors expect their earnings to continue growing, growth stocks carry high valuations in the form of above average P/E, price-to-book (P/B), and price-to-sales (P/S) ratios. A strong Forward P/E, which considers estimates made by the company and Wall Street analysts, indicates an expectation of continued growth for these companies.
More volatile than the broad market: Due to their higher valuations, prices of growth stocks tend to be more volatile than the broader market average. When share prices are already lofty, they can drop quickly if a company fails to keep pace with growth expectations, or when negative news, like a key employee departure, surfaces.
In addition to value vs. growth, investors also need to consider whether to use stocks or funds to implement these strategies. Mutual funds and ETFs offer broad exposure to value and growth strategies, capturing many companies that fit the bill, but also others that don’t. And stock pickers may be able to identify the single best value or growth company in the market, but they could likely pick wrong.
Value vs Growth Stocks on Performance
So how do value and growth strategies really stack up?
Investors are likely most curious about which strategy outperforms the other. While the two strategies historically ebb and flow quite regularly, the returns table below shows that growth has handily outperformed value since the 2008 financial crisis.
Market cyclicality is an important factor to consider when comparing value vs. growth performance. In fact, most studies that attempt to identify the superior strategy of the two often conclude that it comes down to timing—value and growth tilts can each outperform the other given some creative time-framing.
Growth stocks generally perform better during bull markets, when interest rates are falling, and when corporate earnings are trending up. However, during economic slowdowns, growth tends to lag behind value. Similarly, value tends to outperform growth during a bear market or economic recession, as well as in the early stages of an economic recovery.
Company size, given by market capitalization, is also often a contributing factor. When breaking down value and growth by company size, such as large, mid and small market caps, more nuanced performance differences appear.
Which Is Right For You?
Your preference for, or belief in, value vs. growth typically comes down to your investment objectives, risk tolerance, and horizon. You may also prefer to achieve exposure to growth, value, or both via mutual funds and ETFs, or individual stocks.
Some general rules of thumb: growth may be right for you if you’re comfortable with larger price movements and you aren’t in need of current income (by way of dividends); and you might prefer value if you’re looking for more stable investments that regularly pay dividends.
There’s also a case to be made for including both value and growth in your portfolio to smooth out times of volatility, and still keep pace when the market starts to run. “Blend” funds, created by asset managers, have emerged to achieve “growth at a reasonable price.” This hybrid approach focuses on companies poised for growth, but still incorporates traditional value indicators.
Using YCharts to Compare Value and Growth
YCharts features several tools and data sets to enable more informed comparisons of value vs. growth stocks, or value funds vs. growth funds. Below are a few examples of YCharts tools and their capabilities.
The chart above illustrates long-term performance for value and growth strategies, but what about individual stocks and the metrics that define them? Use Fundamental Charts to plot the underlying metrics that define value and growth opportunities and put two or more stocks head-to-head.
The chart below compares the P/E, P/S, and price-to-free cash flow ratios for Amazon (AMZN) and AT&T (T), two common top holdings in growth and value funds, respectively. Amazon’s P/E ratio actually declined from 2017 through 2019, but even then was still four-times that of AT&T. Due to Amazon’s track record of stellar growth, which doesn’t seem to be slowing down any time soon, investors are willing to purchase shares at higher valuations.
Stock and Fund Screeners
Whether your mind is already made up on value vs. growth, or you want to dig a little deeper, use the YCharts Stock and Fund Screeners to narrow in on the best equities and funds for your portfolio. The YCharts Screeners feature several pre-built templates to make finding new investment opportunities even easier.
The Trailing Revenue, EPS, and Cash Flow Growth screen, one of many growth-focused Stock Screener templates, finds stocks with strong revenue growth, earnings-per-share (EPS) growth, and cash from operations growth over several timeframes. See example screen results below:
Evaluating growth and value mutual funds and ETFs is a slightly different analysis. With all growth fund managers trying to pick the best growth stocks, and all value fund managers trying to do the same, you can compare and contrast managers’ success by looking at those funds’ performance and risk metrics.
Once you have a more manageable list of securities (like the results from a screen above), use Scoring Models to create a custom score or ranking using the metrics you find most important. For example, the Value Score below incorporates relative P/E ratio, relative P/S and dividend per share growth, at varying weights, to compare several value stocks head-to-head.
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