Growth vs. value investing



There may be as many approaches to investing as there are investors, but two broad strategies for stock investing are very popular—value and growth.

Each approach comes with its own unique set of characteristics, potential opportunities, and risk considerations. Which style generates better returns has varied over different time periods, and some investors stick with one style and others use both, either to diversify or to try to take advantage of market trends.

While growth and value are approaches to picking equities, you don’t have to buy individual stocks to use these strategies. Instead, you can choose from among the many ETFs and mutual funds based on both styles and leave the individual stock picking to the fund manager.

What’s the difference?

The idea behind growth investing is to buy the stocks of companies that have the potential for rapid growth in revenues and especially earnings. Growth stocks will typically have a high price-to-earnings ratio because investors are optimistic about their future profits. These firms often reinvest those profits to expand or make acquisitions, rather than pay dividends. Partly because of that, growth investors are typically hoping to make money primarily or even exclusively on the rise of the stock’s price. Such investors are also usually willing to accept greater volatility risk, which very often goes along with growth stocks.

Although certain sectors like technology are known for them, you can find growth stocks in any industry. Among other things, growth companies may be innovators, part of an emerging industry, enjoy a clear competitive advantage, or positioned to profit from major social trends. In the recent past, examples of growth stocks include Amazon, Apple, and Netflix.

In contrast, value investors are looking for stocks that may be trading at artificially low prices because the market is not fully recognizing the company’s real worth or likely future prospects. These may be firms that have had recent setbacks, causing their stock price to fall, or they may be in sectors that are currently out-of-favor with investors. Many companies in the value category are mature, established firms that are growing slowly. Often, they use their earnings to pay dividends, which can be a significant component of these stocks’ total returns to investors.

On the risk side, value stocks are typically (though not always) less volatile than growth stocks, meaning investors normally expect to experience slower and less dramatic price drops and swings.

Value stocks are often found in established industries like energy, financial services, and pharmaceuticals—companies like General Electric, Johnson & Johnson, and Abbott Laboratories, for example.

Which style performs better?

There’s no simple answer to which approach provides better returns—it depends a lot on the slice of time you analyze. Here, for example, are two consecutive 10-year periods, one where value performed best and another where growth did better.

chart - cumulative 10-year returns

Data based on the Russell 3000 Growth Index and the Russell 3000 Value Index

It’s important to know that the two approaches typically don’t move in sync with each other — that is, when value is performing well, growth often lags, and vice-versa. Historically, growth has usually been the stronger performer in bull markets, while value has done better in bear markets.

The next chart illustrates the cyclical pattern of growth vs. value during the approximately 30-year period from 1988 to 2020.

chart - cumulative 10-year returns; value minus growth

Data above the zero line shows when cumulative returns for the preceding 10 years for value outpaced those for growth, and by how much. Data below the zero line shows when 10-year returns for growth were higher. Data based on the Russell 3000 Growth Index and the Russell 3000 Value Index.

Because of the unpredictability and cyclical nature of growth investments vs. value investments, many investors choose to diversify by holding both types in their portfolios. The idea is that at least some portion of their portfolio will capture the better returns no matter which approach the market favors at any given time. 

Other investors may put more of their money in one style or the other, depending on their preferred investing strategy or their view of the market over a particular span of time.

Ultimately, you’ll have to decide if the value and growth styles have a place in your investing. One or the other may be a good fit for your goals and risk tolerance, or provide an investing framework that makes sense to you. They may be useful as part of a diversification strategy. Because they are a major factor shaping the behavior of many investors, they may influence the movements of the market in ways that affect your portfolio. For all these reasons, it’s important to understand them, regardless of the investing plan or strategy you follow.

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