When it comes to investing, there are two leading schools of thought – value investing and growth investing. Both have pros and cons, and today we’ll take a closer look at each approaches.
Most investors use one of the other, but when using a mix of the two, the results may just surprise you. Today’s article could significantly improve your returns if you find yourself trying to decide which way you should go.
We believe in both…
Value investing is all about finding companies undervalued by the market and buying them with the hope that the stock will eventually increase in value. Growth investing, on the other hand, focuses on companies that are growing rapidly and are expected to continue doing so.
Both approaches can be successful, but they each have their advantages and disadvantages. Let’s take a closer look at the pros and cons of value investing and growth investing.
What is Value Investing?
Value investing is a strategy that focuses on acquiring stocks that are undervalued within the market and holding the stock until it reaches its intrinsic value.
The origins of value investing can be traced back to Benjamin Graham, who is considered the father of value investing. In the 1949 book, The Intelligent Investor, Graham outlined a strategy for finding stocks that were trading below their intrinsic value.
Graham’s approach was later popularized by Warren Buffett, who is widely considered to be the most successful value investor of all time.
What is Growth Investing?
Growth investing is an investment strategy focusing on stocks expected to grow at above-average rates. The key to successful growth investing is finding companies with solid fundamentals that are undervalued by the market.
The history of growth investing can be traced back to the early 20th century when a group of investors known as the Nifty Fifty made a fortune by buying stocks in large, well-established companies with strong fundamentals and holding them for the long term.
Today, growth investing is one of the most popular investment strategies among professional investors. Many of the world’s most successful investors, such as Peter Lynch, have made their fortunes by following a growth investing strategy.
The Pros of Value Investing
Value investors seek out stocks that they believe are undervalued by the market. By buying these stocks, they hope to realize a profit when the market corrects, and the stock’s price rises to its true value. There are several advantages to this approach:
- Value stocks tend to have less volatility than growth stocks. This means they experience less price fluctuation in both good and bad markets. This often makes them a more stable investment, which can be helpful if you’re risk-averse or have a short time horizon.
- Value stocks often have high dividend yields. This means that you’ll receive more income from your investment in the form of dividends, which can be helpful if you need the money for living expenses or other purposes.
- You may be able to buy value stocks at a discount to their intrinsic value. If you believe that a stock is truly undervalued, you may be able to purchase it for less than it’s worth and realize a profit when the market corrects itself.
- Value investing has proven to be a successful strategy over time. Many famous investors, such as Warren Buffett, follow this strategy and have achieved great success using it.
The Cons of Value Investing
There are also some drawbacks to value investing that you should be aware of:
- Value stocks tend to underperform in bull markets. If the overall market is going up, growth stocks will usually go up more than value stocks. Only investing in value stocks means that you may miss out on some gains.
- It can be challenging to find truly undervalued stocks. There can be thoughts out there about what a stock is worth, and it can be relatively difficult to determine which stocks are undervalued. As a result, you may end up paying too much for a stock that doesn’t turn out to be undervalued.
- Value investing requires patience. It can take a while for the market to correct itself and for your investment to pay off. If you need the money from your investment sooner rather than later, value investing may not be the right strategy for you.
The Pros of Growth Investing
Growth investing has several advantages that make it appealing to investors. First, growth companies tend to be less risky than value companies because they are often newer and growing rapidly, which gives them a cushion against unforeseen events. Second, growth stocks have the potential to generate higher returns than value stocks over the long term. Finally, growth stocks are often more volatile than value stocks, which can allow investors to earn higher returns in a shorter time frame.
The Cons of Growth Investing
While there are some clear benefits to growth investing, there are also some drawbacks that investors should be aware of. First, it can be difficult to identify great growth companies in advance, which means that investors may miss out on potential winners if they don’t do their homework. Second, even when investors do find promising companies, they may pay too much for them if these investors get caught up in the hype surrounding these firms. Finally, because growth stocks are more volatile than value stocks, they may experience sharp drops in price during market downturns.
What Research Shows
Well-known portfolio manager Patrick O’Shaughnessydecided to put this debate to the task going back 50 years.
His study ended up showing that both value and growth investing strategies together beat traditional buy and hold strategies.
O’Shaughnessy study showed that both value and growth strategies could beat the market, but both displayed periods of underperformance at certain times. So by intelligently combining the two strategies, investors dramatically improved their portfolio performance over the long run as one strategy will take charge when the other falters and vice versa.
Conclusion
The debate between value investing and growth investing has been around for many years. Both approaches have pros and cons, and there is no clear consensus on which is better, but they show to outperform when used together. Ultimately, it depends on the individual investor’s goals and preferences.
Value investors seek out stocks that they believe are undervalued by the market. They are willing to hold onto these stocks for long periods, even if it means missing out on short-term gains. On the other hand, growth investors focus on companies with strong potential for future growth. They are often more willing to pay higher prices for these stocks, knowing they will likely see substantial returns down the road.
Both value and growth investing can be successful, but there are also risks associated with each strategy. Value investors may miss out on opportunities if they wait too long to buy into a stock, while growth investors may overpay for a stock that doesn’t live up to its potential. Ultimately, it’s critical to do your homework and carefully consider your investment goals before deciding which approach is right for you.
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Chris Douthit Chris Douthit, MBA, CSPO, is a former professional trader for Goldman Sachs and the founder of OptionStrategiesInsider.com. His work, market predictions, and options strategies approach has been featured on NASDAQ, Seeking Alpha, Marketplace, and Hackernoon.
