A guide to growth vs. value investing

The terms ‘value’ and ‘growth’ refer to two fundamental approaches to investing.

Value investing is essentially about purchasing shares in companies that appear to be undervalued based on their intrinsic value, which is a measure of what an asset is perceived to be worth. A commonly used measure is price-to-earnings (PE) ratio.  These stocks tend to be in those industries that have stable earnings and cashflows today with little room for future growth. For example, Australian supermarkets, where growth is tied to population and small changes in market share.

On the other hand, growth investing is about purchasing shares based on future earnings potential.  These companies often have a high PE ratio, i.e., their current share prices appear to be high when considered against current earnings, however, earnings are expected to grow over time. An example of this is software-as-a-service (SAAS) businesses.  Unlike supermarkets, where you have a relatively clear idea of what they will still be doing in five years, SAAS businesses could evolve in many ways, and their market share and profit could grow accordingly.

Focus on diversification first

The Australian share market tends to be dominated by value stocks and legacy organisations that don’t have the same potential for growth as, for example, tech businesses.  This is one reason why geographical diversification is an important factor in your share portfolio.  In fact, diversification across industries, asset classes and geography should be your first consideration when building your portfolio. When you have this right, you can think about your value vs. growth mix.

Understand which approach will work for you

Which approach suits you depends on a number of factors, from your personal situation, goals, time horizon and investing experience to the current market conditions and environment.

In a low-interest environment, the risk-free returns from bank interest are essentially zero, so the market tends to look to growth shares to see investment returns, but it is cyclical.  As interest rates rise, value stocks will be more likely to outperform.

If you are new to investing, it is probably better for you to hold both types of shares as you learn how the market works, explore your risk profile and tolerance for volatility, and develop your own approach to investing.

Evaluate potential risks and returns

When it comes to return on investment, there is no magic solution, and investments, by their very nature, are uncertain. But when considering growth vs. value stocks, there are some broad approaches you can use to assess potential returns and how they fit in with your investment goals, risk profile and time horizon.

Value stocks are likely to be less volatile, delivering lower but more predictable returns. You aren’t likely to see an unexpected windfall on your Australian supermarket or bank shares, but you will probably see a dependable level of returns. These companies often pay dividends.

Growth stocks, in theory, have uncapped potential and may outperform the market in the future, leading to bigger returns overall. These companies rarely pay significant dividends as they reinvest the money into the company and its future growth. While the returns can be significant, so too can the risks. For example, think of the people who bought Amazon shares for USD $6. They invested based on future growth, and it certainly paid off. But, for every Amazon, there are many more pets.com.

Seek expert advice

The right mix of growth and value shares in your portfolio really depends on a number of personal factors and external market ones.  For this reason, it really pays to have an expert team in your corner who have both an in-depth understanding of global markets and a deep understanding of your situation, circumstances and goals.

At Apt, our investment team works closely with our advisers to apply the latest market information to your portfolio in a way that works for your individual goals. If you are interested in how expert advice can help you protect and grow your investments, get in touch to get started.

General Advice warning

The information provided in this blog does not constitute financial product advice. The information is of a general nature only and does not take into account your individual objectives, financial situation or needs. It should not be used, relied upon, or treated as a substitute for specific professional advice. Apt Wealth Partners (AFSL and ACL 436121 ABN 49 159 583 847) and Apt Wealth Home Loans (powered by Smartline ACL 385325) recommends that you obtain professional advice before making any decision in relation to your particular requirements or circumstances.