The debate between growth versus value continues. Weighting the merits between the two contrasting investment styles is akin to choosing between Batman or Superman as the best superhero.
Although the two investment disciplines take different approaches, both investment styles have merits for investors. You want to have a mix of growth and value stocks in your portfolio for diversification.
The primary objective of investing in growth companies is to generate capital appreciation in stocks that grow faster than the market and peers. Growth companies are typically more expensive but offer higher upside potentials with higher risks. However, there is no guarantee the growth will sustain and translate to actual profits. Since growth stocks are more volatile, they may be more appropriate for long-term investors willing to take higher risks.
Value investors focus on finding companies that are undervalued by the market, trading below their intrinsic values. They seek out stocks trading at bargain prices at the earlier stage of intended stock recovery before other investors recognize their true values. Capital gains are not necessarily the sole objective of value investors. Value stocks are less expensive and offer fewer upside potentials (capital gains) but higher dividends and lower risks than growth stocks.
Value investing trend sustainable long-term?
The pace of the vaccinations, additional stimulus programs, improving economic data, and the re-opening of the economy continues to gain steam. The above have triggered the continued shift toward the re-opening, cyclical, and value-related stocks. Although the recent trend for value stocks is undeniably better than at any time in recent years, the question remains – is it time for value style investing to take the lead over growth style investing longer-term?
The topic is controversial and debatable, partially because the growth versus value paradigm is subjective. There remains a lack of clarity of what constitutes a value stock versus a growth stock. Benjamin Graham, father of value investing, defines value stocks as securities currently out of favor with expectations that full valuation will occur later. Value stocks sometimes trade at discounts to their peers for a reason. Structural problems sometimes can lead to substantial discounts to the marketplace. Under this scenario, undervalued stocks may turn into value traps. They are cheap for a reason and deserve to trade at a discount over the long term.
The long-term structural trend for growth stocks has not changed, but…
The recent rotation into value stocks may not be about strictly growth versus value investing. It may be more of a call between stay-at-home versus re-opening stocks and between defensive versus cyclical stocks. It may be different this time as we have experienced a once-a-decade pandemic. It may have skewed the historical relationships between the growth versus value call. The long-term structural trend for growth sectors and stocks has not changed. But the pandemic may or may not have changed investors' preferences for value versus growth stocks, at least on a near-to-medium term basis. It is too early to determine if this will lead to a structural change.
So, the question is whether the outperformance in value over growth is sustainable and longer-lasting. Numerous market pundits are touting that value will outperform growth longer-term. However, we suspect that is too early to confirm that this is indeed a long-term structural trend change. In the meantime, there is probably some value in diversifying your investment portfolios across both growth and value sectors and stocks.
After all, the price you pay for security still does matter. If you pay too much for stock it does not matter if it is a value or growth stock as the stock in question will return to its intrinsic value, over time. The momentum and street consensus view currently favor value over growth calls. However, that does not mean investors should shift completely toward the value side. Including both solid growth and quality value names in your portfolio will allow for better diversification. Most importantly, you can sleep at night and avoid the fear of missing out when one investment style begins to outperform the other.