Value Vs Growth Investing: Meaning
Value and Growth Investing are two different approaches to investing.
In value investing, the investor picks up those companies which have strong earning and revenue-generating potential in the coming future. The value stocks are also known as multi-baggers as they are expected to yield 100-200% returns over a period of time.
Value investors are long-term investors as they own the ability to withstand several economic cycles, resistance, and breakouts. They wait for the price to reach the right level which shall yield them their desired target.
Whereas in growth investing, investor picks up stocks that are expected to outperform in terms of revenue & dividend yield, profits, and EPS- delivering heavy capital gains to shareholders. They are expected to gain the highest market share in the soaring bull market and be their industry market leader.
In growth investing, often growth stocks perform well in the bull market but freeze and socks investor’s heartbeat in a bear market or in times of economic slowdown. Growth stocks are directly affected by economic turnarounds.
On the contrary, value stocks withhold themselves even during the greatest downsides and trade within a specific range through all bull-bear markets.
Features Of Value Vs. Growth Investing
Value stocks have strong underlying value. The market price of the share is much below the intrinsic value (face value) of the share.
Important features of Value investing are :
i) Undervalued – The price of these stocks is lower than their intrinsic value. Thus, investors wait for the share to reach MP or above MP. When the price reaches above MP, it breaks its range resistance to shoot up. At this point, it gives staggering returns to its shareholders.
ii) Less Fluctuating – Prices of value stocks do not fluctuate much due to the stronghold of these stocks on their MP. Since it trades within a range, it does not regularly break its support or resistance.
iii) Less Risky: Value stocks carry lesser risk than Growth stocks. These stocks mostly lie in large-cap categories where stocks give average returns in exchange for less risk. These stocks can well handle turnarounds and economic turmoil without falling to large levels. Similarly, they do not give exceptional returns in the bull market.
Growth stocks trade at a premium. They have high price-to-earning ratio than the industry average. They also have a higher price-to-book and price-to-sales ratio than the industry average.
Some important features of Growth investing are :
i) High-Priced stocks: People are willing to pay the premium price because of its goodwill, profitability, and Growth potential. Thus, they have a high price and also have the capacity to rise and fall 15-20% within a week because of high demand and supply.
ii) Robust Earnings: Another reason why many investors buy growth stock is because of its high revenue, massive profits, brilliant earnings, and exceptional financial statements(balance sheet, P/L, and cash flows).
iii) Volatile: Although, prices of growth stocks skyrocket in a bullish market but are equally subject to a sharp downfall on account of bad news, unexpected mergers, interest rate hikes, or any other unfavorable market conditions which could end up grieving investors.
How to Find Value Stocks?
To find value stocks, one must study the fundamentals of a company, understand its model, check its book value and compare the same with the market value.
The personal analysis combined with the research helps create the best buy scenario for the investor.
Some of the important parameters to be considered before picking up value stocks :
i) P/B: P/B refers to price to book ratio. The book Value of a share is the price at which a share is listed on the stock exchange. An ideal P/B range is 2-5. A P/B below 2 is considered undervalued.
This ratio shows whether the market price is lower or higher than the book value.
ii) P/E: P/E refers to price to earning ratio. This ratio shows how many times is the price of the share with respect to earnings made per share. An ideal P/E range is 14-30. A P/E below 14 is considered undervalued.
iii) Free cash flow: For value stocks, investors see if the company can pay dividends and maintain structural cash flow i.e, is debt free and has stable working capital to its table.
iv) Management: When investors buy a share, they buy ownership of the company. Hence, they trust the management of the company. This is because the management of the company is the representative of its goodwill and shall possess good records of acquisitions, mergers, growth, and success!
How to Find Growth Stocks?
Growth stocks involve keeping a close eye on quarter and annual financial statements of the company, its mergers & acquisition moves, and its successive ranking. Following are some basic parameters that one must consider before buying growth stocks :
i) ROI – The rate of return yielded by growth stocks should beat the rate of interest in the economy i.e, the stocks’ returns should beat inflationary pressure.
ii) ROE: ROE refers to return on equity.
Growth companies are relied upon only when the promoters’ shareholding is largest. Thus, the ROE of the company should be up to 20%, indicating substantial returns to the biggest shareholder.
Moreover, one must also see that the profits of the company are retained for growth and expansion purposes rather than paying the debts of the lenders.
iii) P/B: The P/B of the company should be between 3-5 or more. This will be an indication of overvalued stock and perhaps, the potential to give staggering returns.
iv) P/E: As stated above, the P/E of growth companies should lie between 14-30 or more. This is also an indication that the stock of the company is overvalued and can be a good buy signal for the short term.
It also shows that the price of the stock is higher than other stocks of the same industry.