Cream or custard? Tea or coffee? Dogs or cats? Classic questions that can divide or unite people across the globe. In the world of investing, that ultimate divisive question falls on the shoulders of ‘growth or value’? But what exactly does this mean?
In April’s edition of Skipton Insight, we take a look at the difference between growth and value investing, how the pandemic has impacted each of these styles, and what this means for you as an investor.
First things first – what’s the difference?
Mark reveals, “Growth companies are typically more expensive to invest in than value companies. When an investor buys into growth stocks they pay a higher price now, in hope that they are able to reap the benefits from the company’s expected future growth. Growth companies are also known for being more defensive in nature, meaning they’re usually pretty resilient during a market downturn.
“On the other hand, value companies are known for trading at a price that’s perceived to be less than their true worth. Investors who follow a value approach tend look for companies they feel have been undervalued by the wider market. Or it could be that a company is experiencing a difficult period and, at the time the investor buys, is out of favour with the majority of the market.
Between 1927-2007, investing in value stocks led to a significant outperformance when compared to growth stocks. So much so, it became a popular notion that value investing was the best approach for long-term investors to follow^.
That’s because, with value stocks, there’s always a chance the company could experience a sharp rise, meaning investors are poised to reap the rewards.
A period of growth
You may have also heard the term cyclical stocks. These are companies which tend to do better when the economy is healthy – they typically fall into the value category.
The devastating effects the pandemic has had on the global economy is a well-known fact – meaning those cyclical type companies struggled for much of 2020.
When the pandemic first struck the stock market in March of last year, investors surged towards well-known growth names like Amazon and Netflix. Not only were investors looking for companies with defensive capabilities during the market downturn, they also knew the circumstances brought about by the pandemic meant consumers had more of a need to use these types of companies.
As a country whose stock market is more concentrated on value companies, the UK struggled over 2020. It trailed the likes of US and China – two countries which are home to some of the world’s biggest growth names like Apple and Alibaba.
Apple, for example, was the first US company to achieve a two-trillion dollar valuation on the stock market last year.
Growth stocks didn’t just dominate 2020. Since 2007, they have been able to outperform value stocks due to an environment of low rates and low inflation.
All in all, it’s been a tough few years for value-based investors. But could it be that 2020 was finally the reboot value stocks needed?
Not only was the vaccine news in November 2020 a boost to the population in general, it was good news for value investors. The prospect of an economic recovery, increased consumer spending and a chance of inflation caused investors to begin placing their faith back into value stocks.
As consumers begin to revert to old habits, cyclical stocks such as retailers and airlines should begin to experience some well-needed positive performance. Historical trends also point to value shares performing better when the economy emerges from a crash.
Richard continues, “The pandemic accelerated these trends further. In particular, there was strong demand for companies that provide technology enabling home working and home deliveries.
“However, in the last few months, companies that will benefit from the end of lockdown have started to perform, including airlines, restaurants and the like. Mining companies, oil companies and other economically sensitive areas of the market have also started to perform, as the expectation of the global economy getting back on its feet starts to heighten.”
What this means for you as an investor?
2021 is expected to be a year of economic recovery across the globe, meaning the sort of environment that favours value stocks. However, the strength of growth stocks should not be underestimated.
Mark concludes, “There are some experts who argue it’s time for value to once again show what it can do, yet others are firm believers that growth is here to stay. Whilst our experts here at Skipton like to make informed predictions, the reality is that nobody really knows for sure. The events of last year are testament to that.
“That’s why we always recommend you hold a diversified portfolio. As an investor through Skipton, it’s likely your portfolio will be positioned so that you’re invested in some funds which favour growth investing and some funds which favour value investing – covering all bases.
“With exposure to both areas, you stand to benefit from the upsides, whilst being protected against the downsides. Diversification is the best tool you possess to counteract any surprises.”
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^J P Morgan (2020) What would it take for value to outperform again?