Growth and value investing are important and contrasting investment philosophies. Both styles are based on analysis of the fundamental of a stock are widely successful and contain important fools are for successful stock picking. Hence, all investors ought to understand the similarities and differences between growth and value investing.
Value investors buy stocks which seem undervalued relative to their intrinsic value. Since the intrinsic value of a stock is very hard to quantify, value investors try to estimate it using fundamental metrics; they look at stocks with low price to earnings (P/E) or price ratios (P /B) and high dividend yields.
Value investing is grounded in academic research and was developed by American professors Benjamin Graham and David Dodd warren Buffett was taught by Graham at Columbia Business School before he embraced on his spectacularly successful as a value investor.
Adherents to this style of investing often display certain characteristics:
1) Value investors tend to be somewhat contrarian because stocks that are relatively undervalued are those that are currently out of favor among investors.
2) They often fund themselves going against the widely held opinions of the day as they are focused on the long term.
3) Since measures such as trailing P / E and dividend yield are based on past performance, this style favors stocks with a proven track record. Warren Buffett, for instance, is famous for only investing in business he understands. As a result, proponents of this style are sometimes characterized as conservative.
Growth Investors are focused on stocks that are likely to exhibit strong growth. Successful growth investors seek to identify nascent trends in technology or demographics that will propel new stocks or assets to strong growth. Unlike value investors they are averse to paying a premium for growth as measured by high P/E or P / B ratios and low dividend yields.
Growth investors have been associated with a couple of major investing trends in recent years.
Growth investors were severely discredited during the bursting of the dot-com bubble in 2001. In preceding years, they estimated that the internet would revolutionize business and bought into stocks at inflated prices. Many of those firms turned out to lack sustainable revenue models and suffered. Growth investing was widely viewed to have failed. Despite this, growth investors have been somewhat vindicated lately; the internet has indeed had a transforming effect; and some archetypical internet growth stocks such as Amazon and Google have lived up to their early promise.
Investments in emerging market equities and commodities made early this decade brought spectacular success to many growth investors. They reckoned that favorable demographic trends and sound economic stewardship would propel giant emerging markets such as China, India, and Brazil to strong growth and fuel demand. Many value investors termed these assets as expensive and stayed in developed market equities and missed the strong out performance of emerging markets.
Growth Investing and Momentum Investing
Because growth investors sometimes buy recent out performers their style is sometimes confused with a third major style, momentum investing in which recent out-performance is explicitly the basis of stock selection.
Unlike growth and value investing which attempt to estimate he fundamental value of a stock, momentum investing is focused on technical factors such as price and volume. For this reason it is sometimes viewed more as a tool for training than investing.
Both growth and value investing focus on estimating the intrinsic or fundamental value of a stock. Value investors are attracted to low profile stocks with strong track records, stable earnings and tangible assets. Growth investors try to be early buyers of firms with the potential to become future leaders. Both schools of thought have produced many successful investors and are widely respected in the investment community.