Value vs. Growth: Is There a “Right” Way to Invest?

Long-term investing is more than just putting money into the stock market; it requires strategic planning and choosing investments that align with your financial objectives. Two popular yet distinct approaches investors often use to build wealth are value investing and growth investing.

Although both investment approaches have unique advantages and challenges, historically, value stocks have outperformed growth stocks in the U.S. over the long run. This margin of outperformance is what researchers call the “value premium.” 

At TrueNorth Wealth, our investment philosophy is rooted in academic research and historical evidence, which is why we favor a value-oriented investment approach for our clients. While we believe this strategy has the potential to provide more consistent outcomes over time, we also understand that investors have distinct financial preferences and goals.

In other words, there’s no “one size fits all” approach to investing. Therefore, it’s essential to understand the nuances of value and growth investing, as well as your individual needs and objectives, to make informed decisions that maximize your potential for growth and financial security.

Understanding Value Investing

Value investing was popularized by Benjamin Graham and David Dodd in the 1930s, laying the foundation for many successful investors who followed. Graham, often referred to as the “father of value investing,” emphasized the importance of buying stocks that trade for less than their intrinsic value, providing a “margin of safety” against market volatility.

This approach is based on the premise that the stock market doesn’t always accurately reflect the true worth of a company. However, when the market eventually recognizes its worth, it can result in significant capital appreciation.

Value investors must often adopt a contrarian mindset, as value stocks tend to be out of favor with the broad market. In addition, patience is crucial, as it can take time for the market to correct mispricings. 

Key Characteristics of Value Stocks  

In general, value stocks tend to exhibit the following characteristics:

• Undervalued Relative to Peers. Value stocks typically trade at lower prices than similar companies within their sector or industry. Essentially, these stocks are “on sale,” presenting a buying opportunity for investors who recognize their potential. 
• Lower Price-to-Earnings (P/E) Ratios Than the Broad Market. The P/E ratio is a measure of a company’s current share price relative to its per-share earnings. Value stocks tend to have lower P/E ratios because they’re priced more conservatively. This lower valuation can signal to investors that the stock is undervalued compared to its actual earning potential.
• Reliable Income Streams. Many value stocks come from larger, more established companies that generate consistent earnings. Unlike growth companies, which reinvest profits to fuel further expansion, these value companies often distribute earnings to shareholders in the form of dividends. This makes them appealing to investors seeking steady income streams.
• Less Volatile Than the Broad Market. The conservative pricing of values stocks often leads to more stable share prices, making them less susceptible to sharp market fluctuations. However, investors should be cautious of “value traps”—stocks that appear undervalued based on price but continue to decline due to underlying fundamental weaknesses.

Understanding Growth Investing

Growth investing involves identifying companies that exhibit potential for above-average earnings growth. Unlike value investing, which looks for stocks trading below their intrinsic value, growth investing focuses on future potential and the possibility of substantial profits.

Growth investors are typically less concerned with traditional valuation metrics like P/E ratios and more interested in indicators that suggest a company could dominate its industry or revolutionize a sector. By focusing on a company’s future market share and technological advancements rather than its initial profit margins, growth investing can yield significant returns for successful investors.

However, high expectations for future performance can lead to increased stock price volatility, and any sign of slowing growth can result in significant stock price declines. Additionally, growth stocks are generally more expensive to purchase, which can limit the entry point for some investors.

Key Characteristics of Growth Stocks

In general, value stocks tend to exhibit the following characteristics:

• Recent Earnings and Revenue Growth. Growth companies, typically in the early to mid-stages of their development, show better-than-average growth compared to their peers. Investors are attracted to these stocks because they anticipate that the rapid growth will continue into the near-term future, justifying the higher prices they are willing to pay.
• Higher Price-to-Earnings (P/E) Ratios Than the Broad Market. Growth stocks generally exhibit higher P/E ratios compared to value stocks and the broader market. A high P/E ratio indicates that investors are willing to pay more for each dollar of earnings because they have strong expectations of continued growth.
• More Growth Potential with Less Consistent ROI. Growth companies often plow their earnings back into the business to fuel further expansion, rather than paying dividends to shareholders. As a result, an investor’s return on investment (ROI) is heavily reliant on the appreciation of the stock price.
• More Volatile Than the Broad Market. The prices of growth stocks can fluctuate significantly, influenced by factors such as earnings reports, market sentiment, and industry trends. Furthermore, high share prices can plummet quickly if a company fails to meet earnings expectations or if negative news emerges.

Value vs. Growth: Academic Insights & Historical Performance

Eugene Fama and Ken French’s Three-Factor Model revolutionized financial theory by expanding on the traditional Capital Asset Pricing Model (CAPM). Their model added two additional factors to better explain asset returns: size (small-cap vs. large-cap stocks) and value (high book-to-market ratio) versus growth (low book-to-market ratio) stocks. 

The inclusion of these factors demonstrated that value stocks tend to deliver higher returns than growth stocks over the long run. This differential in performance is often referred to as the “value premium.”

Despite these findings, there have been periods throughout history when growth stocks outperformed value stocks. Most recently, the so-called Magnificent Seven—seven high growth stocks that include Apple, Microsoft, Google parent Alphabet, Amazon, Nvidia, Meta Platforms, and Tesla—have dominated the performance of the S&P 500 Index. 

Another example is the dot-com bubble in the late 1990s, which ultimately burst in March 2000. However, value stocks took the lead and outperformed for several years until the 2007-2009 Financial Crisis.

Performance Expectations

Growth stocks, which are typically associated with high earnings potential and rapid expansion, tend to thrive during bull markets. When the market is steadily rising, investors are willing to pay a premium for these stocks, driving their prices higher in anticipation of future growth.

Growth stocks also tend to perform well in low-interest-rate environments. That’s because low and falling interest rates make it less expense for these companies to borrow capital to fund expansion projects. 

In contrast, value stocks often take the lead when the economy is cooling, and investors seek safer investments. Moreover, during the initial recovery phases following an economic downturn, value stocks can perform well as investors seek stability and reliable income.

Is Value Investing or Growth Investing Better?

If history is a guide, there are times when it pays to invest in growth stocks, and there are times when investing in value stocks is more rewarding. Long-term investors can benefit from holding both types of stocks in their portfolios, capitalizing on the strengths of each. 

However, the proportion of value versus growth stocks in a portfolio can vary significantly based on an investor’s philosophy and preferences, objectives, risk tolerance, and time horizon.

For instance, younger investors with a long-term horizon may lean toward growth stocks to maximize their appreciation potential. These investors are typically many years from retirement and are less concerned about short-term volatility or generating immediate income from their investments. 

Conversely, investors nearing or in retirement may favor value stocks for their stability and income potential. These stocks also offer a margin of safety, given their lower valuations.

TrueNorth Wealth is here to help.

Ultimately, there’s no “right” way to invest; oftentimes, the key to success lies in developing a sound investment strategy and sticking to it over time. By constructing a diversified portfolio and adjusting it over time to match your objectives and risk tolerance, you can benefit from the positive attributes of both investing styles while mitigating the associated risks. 

If you’re looking for personalized financial planning and investment guidance, TrueNorth Wealth is here to help. Our team of fiduciary CFP® professionals can help you develop a strategy that supports your financial goals and aspirations throughout each phase of life. 

TrueNorth Wealth is among the top Wealth Management firms in Utah and Idaho, with offices in Salt Lake City, Logan, St. George, and Boise. At TrueNorth Wealth, we focus on helping our clients build long-term wealth while maximizing the enjoyment they receive from their money. We do this by pairing our clients with a dedicated CFP® professional backed by an incredible team.

For our team at TrueNorth, it’s about so much more than money. It’s about serving families all across Utah and helping them achieve freedom and flexibility in their lives. To learn more or schedule a no-cost consultation, visit our website at TrueNorth Wealth or call (801) 316-1875.