Investing in “value stocks” for long-term growth may be a wise model. You don’t just need “growth stocks” to grow your nest egg.
The difference between value and growth stocks
Long term, value investing has delivered higher returns than growth investing. “Growth stocks” are called that name because they grow their earnings at a faster average rate than the market. A downside of fast growth is stocks can become expensive and overvalued.
Value investors buy stocks whose share price may not reflect their true value based on fundamental metrics such as price-to-earnings ratio or price-to-book ratio. Value stocks can be undervalued because of a stock market downturn, an industry slump, or competitive factors. When the company’s fundamentals improve, the stock value rises closer to its intrinsic value.
How do you choose value or growth?
Growth and value stocks have different cycles. When growth is weak, value stocks may be strong. A well-diversified portfolio holds both growth and value stocks.
The optimal asset allocation
Unfortunately, there is no optimal market allocation of growth and value stocks.
When you buy growth stocks you accept a trade-off between higher potential returns and higher potential losses. Value stocks, on the other hand, may earn lower short-term returns but experience less volatility.
The percentage of your portfolio that should be growth (high risk-return) vs. value (lower risk-return) stocks depends on your financial goals. Since both are stock investments, you expose yourself to the real risk of loss of principal in either case.
As someone who likes the risk in rollercoasters, but doesn’t want to be turned upside down by the stock market, I like to analyze a company’s fundamentals and choose value stocks. While no stock is “risk-free,” value stocks can add positive returns to a long-term portfolio.
If you’re not sure what the right mix of growth and value stocks should be in your portfolio, watch this video (Profile-Financial.com/stocks) to learn how a professional money manager can develop the optimal asset allocation for your risk tolerance.
Douglas Goldstein, CFP®, is the Director of Profile Investment Service, Ltd., which specializes in helping people who live in Israel with their US dollar assets and American investment and retirement accounts. He helps olim meet their financial goals through asset allocation, financial planning, and using money managers.
Published February 5, 2018. Updated February 2021