Value stocks and Growth stocks are both stocks. They share similar qualities but also differ at the same time. But both of them have the same objective and that is to increase your wealth. In this article, we'll discuss what is the difference between the investing strategy of growth and value investing.
First off, we need to know and identify what is Growth and Value. We can't just differentiate two or more things without knowing them.
Growth investing is an investing strategy that mainly sees the potentially rapid growth or expansion of a company to dominate a certain market. It doesn't see the stocks current market price. The investor bets on a company's ability to expand and dominate. When a company dominates a market this usually means a steady profit off of the stock you bought. Although it is quite risky, the rewards from it are very high.
Growth investors rely more on Earnings per share (EPS) as their means of profit compared to P-E (price-earnings). They don't mind high P-E. Higher P-E usually has a consequence of a high downside if ever investments fail because of its very high cost. But as long as the growth of earnings is increasing, growth investors don't mind high P-E.
Such examples of not minding a high P-E is to evaluate the company. Usually, P-E won't be a matter to you when your approach is growth investment if:
- The company is in its early stages of growth
- The company has an edge among its competition
- The company has a better reception or feedback about their products
- The company has a better geographic location to sell their products
- The company belongs to a new industry (like medical marijuana)
Using growth investing as your strategy can be very tricky. It requires that you have to constantly check on the company. What makes them stand out amongst the competition? What makes them different? Many questions that need you to research in order to assess if the company you're gonna invest in will be a success and yield your profit.
To help you understand how you can assess companies using a growth investment strategy here is some questions you can follow:
- Is the trend of the stock price rising recently?
- Are the sales and earnings of a company rising? At how much and how fast?
- Is the stock reaching new high prices?
- Is the stock being popularly and actively traded in the market?
- Is there news about the company that might interest investors?
- What is the current state of the company's target industry? Is it going up?
- A Beginner's Guide to Growth Investing
- 4 Tips to Evaluate Growth Companies
- 5 Characteristics of Good Growth Stocks
Value investing is an investing strategy that heavily relies on the potential value of a company which is currently priced low. It relies on that the price of the stock you're buying is significantly lower than its intrinsic value. Which means, the stocks aren't being sold right now as to how much it really is in the long run. A common example of this is a long-running company that is currently doing badly in the business cycle. You know they won't just go bankrupt but will find ways to improve since they've been running the company for a long time.
How to Evaluate a Company's Intrinsic Value?
Here is what Warren Buffett has to say about value investing:
- Check the company's performance consistency. You can do this by checking the company's ROE (Return of Investment). Companies usually disclose this information to the public. You must also compare it to its competitors and historical numbers should also be studied. You can get ROE using the formula:
Net Income / Shareholders Equity
- Make sure the company has no debt or has a small debt. This is a no brainer. The more debt the company has the less likely it will net a profitable gain. Also, Higher debt means lower ROE.
- Check if profit margins are historically increasing. A high-profit margin indicates that the company is performing very well.
To add more:
- How much would the company be worth if all of its assets are sold?
- Have the markets missed or ignored assets the company has hidden?
- If another company acquires it, will it's worth rise or fall?
- What are the company's intangible assets? E.g brand recognition, high-quality management, or ranking amongst the competition.
You can also check a company's balance sheet, low debt, high cash flow, and the quality of management it has to evaluate its intrinsic value.
As a value investor, you will value a company's P-E (price-earnings), price-to-sales ratio, dividend yield, price-to-book ratio, and the rate of sales growth of a company.
Differences Between Growth and Value Investing
Value investors look backward to the history of a company. Whether the company has been of good quality and has performed outstandingly throughout its operation. They don't look at one instance of a downturn as a sign the company is going downhill. They look at the company's ability to perform and put their trust that the company will be able to recover.
Growth investors on the other hand look towards the future. They look at the company's potential to expand, grow, and dominate the industry. They look at a high rate of returns. This is a rather risky option compared to value because of its high P-E but the reward is also enticing.
Value investors prefer relatively low P-E (price earnings). The lower the P-E the better profit there is when the company reaches back to its intrinsic value.
Growth investors prefer High P-E ratio. High P-E ratio means that the company is growing fast and is expanding rapidly.
Value investors prefer high dividend yield while growth investors prefer to low or no dividend yield.
Value stocks tend to have relatively slow earnings growth and sales while Growth stocks have rapid earnings growth and sales.
Which is the Better Investment Strategy?
There isn't. It depends on your preference and also the current state of the market. But recently growth investments have been outperforming value investments and its to be expected. A new industry like I.T, Smartphones, Internet, Mobile Apps, Medical Marijuana, and etc… have all been recently rising and growth investments thrive in rising industries. But it has slowed down and value investments have always had a steady growth all-year long. Know that both have different approaches to investing. Some investors even have both of them in their portfolio.