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What is the difference between growth vs value investing?
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In this article, we will break down the notions of Value Investing vs Growth Investing so you know all there is to know about it!
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Value Investing vs Growth Investing
What is the difference between value investing and growth investing?
“Value investing” and “growth investing” refer to two different investing styles that you may adopt.
When we talk about value investing, you are looking to find investment opportunities where you can purchase stock below its actual value (you are investing for “value” or a good price).
With growth investing, you are looking to invest in a stock that has a high growth potential (like an up-and-coming new business) where you expect the value of your investment to increase over time.
You may have hears of “value stocks” or “growth stocks”.
That’s a great example of what a value investor or a growth investor may consider.
With a value stock, your objective is to purchase the stock of a publicly traded company below its real valuation.
In other words, if you consider the company’s earnings and growth potential, the stock price is trading below its true value.
As such, you are value investing if you buy the stock based on your analysis that the stock price is currently trading below its market value.
Warren Buffett is probably the best-known value investor the world has known.
He has adopted value investing largely based on Benjamin Graham’s value investing principles published in his 1949 book called “The Intelligent Investor: The Definitive Book on Value Investing”.
With growth stocks, you are looking to invest in a publicly traded company that is quickly growing and may emerge as a leader in its space in the future.
If you buy shares of a newly listed stock based on the anticipation that it will grow and perform well over time, you are growth investing.
In essence, you are hoping to benefit from the capital appreciation of your investment.
Here is a high-level difference between value stocks and growth stocks:
- Value stocks are undervalued whereas growth stocks are expensive
- Value stocks have low PE ratios whereas growth stocks have high ones
- Value stocks pay dividends whereas growth stocks have low dividend yield or none at all
- Value stocks tend not to appreciate much in value whereas growth stocks may have higher price volatility
Value Investing Definition
What is the meaning of value investing?
Value investing is an investment strategy designed to find stocks or companies that are undervalued in the marketplace.
Based on this definition, you can see that value investing is defined as:
- It’s an investment strategy
- Intended to find a publicly traded company or stock
- That is undervalued compared to its book value
- Relative to its earnings and long-term growth protential
Growth Investing Definition
What is the meaning of growth investing?
Growth investment is an investment strategy designed to find stocks or companies that will offer strong earnings potential and growth over time.
Based on this definition, we can say that growth investing is defined as:
- An investment strategy
- Intended to find companies or stocks
- That are rising stars or have a very positive growth potential
- Can be purchased now before the stock prices significantly rise over time
Growth companies are those that have offered better-than-average growth over the past recent years and are expected to continue growing in the future.
A growth investor will seize the opportunity to find these quickly growing companies and bet on the fact that the company will continue to grow thereby offering a better-than-average return on investment.
Now that we’ve looked at understanding the fundamental differences between value and growth investing, let’s look at their key characteristics.
Characteristics of Value Investing vs Growth Investing
To better understand growth versus value investing, it’s worth considering their respective characteristics.
Value Investing Characteristics
Value investing is characterized by the following features:
- Stock is undervalued in the market
- Stock is below industry average
- Stock offers less risk than market
The first feature is that the value stock is priced below the broader market.
Undervalued by the Market
When an investor discovers that a company’s stock price is trading below its true market value potential, it may be a good value investment potential.
The value investor believes that the market undervaluing the stock’s price and, with time, the stock price will get adjusted (and increase).
Undervalued Compared to Industry
Another feature of value stocks is that they are undervalued compared to their peers in the same industry.
Typically, you may find a value stock when investors and the market reacts negatively to the release of a company’s financial statement, negative publicity on the company, or another factor that can affect the company’s stock price.
A value investor will recognize that the company’s fundamentals are strong and the negative publicity or information is only temporary.
Lower Risk Than Market
Value stocks are generally companies that are well-established that have fallen out of favor with investors but continue to demonstrate strong fundamentals.
As a result, the stock price of a value stock will be less susceptible to move with varying market conditions and news about the company.
Investors tend to buy value stocks with the objective of keeping them long-term so they can realize a profit.
The underlying consideration of choosing a good value stock is that it will provide less risk than the broader market.
Growth Investing Characteristics
Growth investing is characterized by:
- Stock price is above the market
- High company earnings
- Stock price volatility
Stock Priced Over Market
One characteristic of a growth stock is that its stock price is more than the company’s current earning potential and revenues.
In other words, investors are will to pay a premium to buy the stock expecting that the stock price will go up even further as time goes by.
Typically, growth stocks show a high price-to-earnings multiple.
Strong Company Earnings
Another growth stock feature is that the company has shown strong growth and is expected to continue growing over time.
Regardless of the market conditions, growth stocks tend to perform well due to their strong reported earnings.
Stock Price Volatility
Investors buying into growth stocks need to accept higher price volatility in the market.
Essentially, growth stocks are highly sensitive to any bad publicity or negative news that may circulate on the company.
To the extent that the company is showing good earnings and the overall sentiment about the company is positive, the stock may continue rising in price.
However, negative news can result in a sharp fall in the stock price.
Choosing Between Value Versus Growth Investing
Which is better between value vs growth investing?
Should you invest in value stocks or growth stocks?
There is no cookie-cutter answer to this question as the investment strategy that is best will depend on your preferences, risk tolerance, and financial goals.
Some studies suggest that value investing outperforms growth investing on a risk-adjusted basis in the small-cap, mid-cap, and large-caps.
However, other studies provide a different evaluation.
Let’s look at why you may want to choose value investing or growth investing (or both).
Value Investment Considerations
By investing in value stocks, you tend to favor the option of getting some sort of income with your investment.
Since value stocks are generally well-established companies, they may offer dividends to their shareholders.
Dividends are paid to attract investors looking for a steady stream of income on their investments.
Another factor you may consider in value investing is that you prefer to have an investment where the stock price does not fluctuate as much in either direction.
If you buy the stocks of a company with a good business model and operating their business as expected, the stock price volatility will remain low.
For a company to be considered a “value” stock, it must have strong fundamentals but is undervalued in the market temporarily.
In some cases, a company may lose its competitive edge for some time and will bounce back.
Value investing requires that you find stocks where the company demonstrates strong fundamentals and will remain a strong player in the market.
Shorter Term Payoff
Although you should not expect to make a profit on your value investment in the very short term, a value stock price may adjust itself to the true market value of the company in a relatively shorter period of time than growth stocks.
If you are looking for a quicker payoff, value investing may be a better option.
Growth Investment Considerations
If you choose to invest in growth stocks, you are not primarily concerned with earning an income on your investment.
Growth stocks are companies that are growing quickly and tend to reinvest all their earnings in the company.
As a result, they do not pay dividends or provide investors with any income on their investment.
Stock Price Volatility
Growth stock prices are more volatile than value stocks.
The market tends to react quickly to any positive or negative news concerning the company.
For example, when the company reports growing earnings, the stock prices may potentially jump to new highs.
However, if the company reports disappointing earnings, the stock price my fall significantly.
Growth stocks are typically companies that are either in an emerging industry or operate in a fast-changing industry.
You tend to find a lot of growth stocks in the technology sector as it’s an industry where companies innovate quickly.
You can also find growth stocks in emerging markets or industries.
Long Term Investment
To make money on growth stocks, you’ll need to be patient.
To generate a return on your investment, you’ll need to give the growth stock a sufficient amount of time to grow and create value.
If you don’t need to cash out in the short or midterm, you may consider growth stocks as an investment option potentially giving you a higher return on investment.
If we look at the market history, we can draw certain conclusions between “value investing vs growth investing”:
- Growth stocks tend to perform best when interest rates are going down and company earnings are going up
- Growth stocks tend to lose more value during economic downturns
- Value stocks are found in cyclical industries
- Value stocks tend to do best at the start of an economic recovery
In the end, it’s up to you to see what investment strategy is best for you.
Many investors tend to combine “growth investing” and “value investing to improve their returns and lower their risk.
If you are interested in starting to invest in value stock or growth stocks, you can get yourself up and running by opening a brokerage account with a firm of your choice.
There are many opportunities out there, it’s up to you to look for them and find what’s best for you.
If you don’t know which brokerage firm to sign up with, consider SoFi, Ameritrade, or ETrade.
To help you get started, I’ve done a thorough brokerage firm review where I look at different brokers, their service offerings, and fees.
Be sure to check it out!
The Intelligent Investor is authored by Benjamin Graham and is a classic text for investors.
Graham’s book was published in 1949 and is now the stock market bible!
Growth Vs Value Investing Takeaways
So, what’s the difference between Value Investing vs Growth Investing?
Value investing involves finding stocks that pay dividends, have a low P/E ratio, have suffered a short-term setback, and continue to earn good profits.
Growth investing involves finding stocks that are showing fast-growing sales, generate fast-growing profits, are expanding quickly in new markets, new industries, and emerging as market leaders.
Choosing between value vs. growth investing will largely depend on your individual preference, risk tolerance, investment objectives, and investment time horizon.
From my perspective, growth vs. value investing both have merits.
If you can build a well-diversified investment portfolio for yourself, you can increase your chances of earning a nice return on your investment while minimizing risk.
Although I have not covered it in this article, there are all sorts of different types of investing strategies, such as:
- Index investing
- Low-volatility investing
- Magic Formula investing
- Momentum investing
- Contrarian investing
- Quality investing
- Blue-chip investing
Now, let’s look at a summary of our findings.
Growth Investing vs Value Investing
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