Growth Vs. Value Investing: Which Style Suits You?
When making your investment decision, do you lean towards growth funds or value funds? Let’s take a look at both to see which type suits you best! While both growth and value investing styles seek to provide the best possible returns for investors, the primary differences lie in the approach, the way stocks are picked, and the types of markets for which they are best suited.
A growth fund tends to focus on companies that experience faster than average growth as measured by revenue, earnings, or cash flow. Generally, growth-oriented companies are also more likely to reinvest profits in expansion projects or acquisitions, rather than use them to pay out dividends.
Investors focused on growth investing will keep an eye out for stocks with growth potential that focus on newer and expanding companies which are likely to rake in profits in the future, and higher than the industry or the market in general. When you invest for growth, you are looking at capital appreciation over the long term.
As growth funds are expected to offer higher returns, they also generally represent a greater risk. They tend to do better than the overall market when stock prices are rising, while underperforming the market as stock prices fall. Therefore, investing in growth funds may require a higher tolerance for risk and a longer time horizon.
Factors to consider when considering a growth fund:
• Is the company able to grow substantially faster than its competitors?
• Is the company involved in a rapidly expanding industry (e.g. technology and healthcare, etc.)?
• Are you comfortable with profits being realised through capital gains instead of dividends?
• Can the fund achieve above average valuations such as high price-to-book and/or price-to-earnings ratios?
Pros and cons of growth investing
|Reduces probability of a large loss by purchasing equities with a high margin of safety||If a downtrend occurs, the shares may continue to become cheaper and cheaper (trading at less than intrinsic value)|
|Goes against the grain i.e. not following the crowd, where “hot tips” and fads do not impair investors’ judgement||Intrinsic value is subjective, two analysts can analyse the same company and derive at a different value|
|May provide consistent returns||May yield lower returns on an annualised basis|
The best of both worlds
So, which style of investing would suit your portfolio best? Well, the experts say that every investor’s portfolio should contain a combination of both.
As investors, employing a single approach only when investing over a long period of time may not be the best idea. Instead of choosing only one approach, an investor should strive to maximise returns while minimising risk by combining both growth and value investing.
This approach would allow investors to potentially gain whether the general market situations favour the growth or value investment style. These two types of stocks also tend to move in the opposite direction to a certain extent, so investors can enhance their potential for returns and reduce risk by combining the two approaches. Value funds offer investors more protection during sell-offs, while growth funds tend to lead during market rallies.
The wise investor knows and understands the differences between the two, but the wisest investor knows that a portfolio built around both growth and value stocks is the true path to investing success.