Growth Stocks vs. Value Stocks: Two Types of Stocks with Different Levels of Investment Risk

Growth Stocks vs. Value Stocks: Two Types of Stocks with Different Levels of Investment Risk

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  • Value stocks tend to be less volatile than growth stocks and perform better in down markets.
  • Growth stocks historically outperform value stocks in bull markets.
  • Value stocks generally pay higher dividends than growth stocks.

Growth stocks are stocks of companies that are expected to experience high growth rates in both earnings and returns for investors.

Value stocks, on the other hand, are stocks of companies that trade at a lower price relative to the financial performance of the company.

Both have their own pros and cons and work differently depending on where the economy is in the business cycle. But which one is best for you and your wallet? Let’s take a closer look at each investment strategy to understand if they might suit your goals.

Value Stocks vs. Growth Stocks: At a Glance

Growth stocks are those that investors believe will have above-average returns in the short term, while value stocks are those that investors believe are being overlooked by the market as a whole.

Another way to look at the difference between the two: growth stocks would be the expensive designer jacket, value stocks would be the thrift store jacket.

  • Value stocks are measured and defined by their financial performance, such as sales, profits and certain financial ratios.
  • Growth stocks are more volatile than value stocks, but they also have the potential to generate higher returns.

What are value stocks?

Value stocks are often defined as those that trade below their intrinsic value. The intrinsic value of a stock is the price calculated based on the company’s future growth or the amount of assets and liabilities the company currently owns.

For example, if a company’s intrinsic value is $100 per share but it is currently trading at $80 per share, it could be considered a value stock.

Billionaire Warren Buffett, through his holding company Berkshire Hathaway, is one of the most prominent value investors. Value stocks generally outperform growth stocks during periods of market volatility or when the economy is weak. Indeed, value stocks are often seen as a safe haven in times of economic uncertainty, as they are older and more established.

“Sectors commonly associated with value stocks include financials, energy or industrials,” says Kyle McBrien, a CFP® professional at Betterment. “These companies are typically able to pay higher dividends to shareholders than their growing counterparts because their products and services don’t require as much reinvestment.”

However, value stocks have become increasingly rare. According to data from Charles Schwab and Bloomberg, there were approximately 75 value stocks in the S&P 500 in September 2022. In 2012, there were over 125 value stocks.

Here are some pros and cons of value stocks.

Example of value stocks

S&P Global is the company that created and monitors the S&P 500 index and its variations. In 1992, S&P Global created the S&P 500 Value Index, measuring value stocks using the financial ratios of book value, earnings, and sales-to-price ratio.

Both Coca-Cola and Procter & Gamble are defined as value stocks by S&P Global criteria. Additionally, both companies have been paying a growing dividend for at least 60 years.

What are growth stocks?

Growth stocks, as the name suggests, are those that perform above average relative to the broader stock market.

S&P Global determines growth stocks based on a company’s sales growth, earnings-to-price ratio, and momentum. The momentum of a stock is the speed at which its price rises or falls. Growth stocks tend to be more concentrated in the healthcare and technology sectors than value stocks. Ark Invest’s founder, Cathie Wood, is one of the most well-known investors who follows the growth investing methodology.

“Growth stocks tend to perform better in low interest rate environments,” says Nikki Dunn, CFP® professional and founder of She Talks Finance. Indeed, these companies can borrow cheap capital to finance their growth. The reverse, however, is true when the economy slows and interest rates rise, increasing borrowing costs for growing businesses.

Example of Growth Values

S&P Global defines value stocks using sales growth, momentum, and the ratio of earnings change to price. Current companies considered growth stocks are Apple and Tesla. Over the past decade, both have become well known for their track records of high returns.

The bottom line

Trying to time the market and choosing the right time to invest in a growth stock versus a value stock – and vice versa – can be tricky. As with all investments, you need to consider your risk appetite as well as your time horizon when comparing growth and value investing approaches.

“There are times when a style may be more favored in the market,” Dunn says. “I think they both have their place in a portfolio to stay diversified.”

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