The Tug of War Between Growth and Value Stocks
September 17, 2019
By Colin O'Shea
Did you ever play tug of war as a child?
I remember lining up in gym class on either side of a rope with a knot in the middle, waiting anxiously for the teacher to blow the whistle. Throughout the game, momentum could flip from one side to the other. The excitement increased with each shift. Which side would win?
Another subtle but fascinating tug of war is happening in the stock market between value and growth stocks. Month-to-date through Sept. 11, value stocks are up more than 5 percent while growth stocks are essentially flat.
What's the Difference Between Value and Growth Stocks?
By definition, a value stock is a stock that trades at a lower price relative to its earnings, and typically pays a dividend to investors. A good example of a value stock is AT&T, which pays a dividend of 5.4 percent. A growth stock, meanwhile, generates revenue and profit above the market average, but may not pay a dividend. Instead, the earnings are reinvested in order to provide future growth. One example of a growth stock is Microsoft, which has grown its earnings per share by 7.7 percent annualized over the last 5 years.
Last week, there was a particularly dramatic shift from growth toward value, with value stocks outperforming growth by a wide margin. Separately, these moves were dramatic, but together they may have gone unnoticed since the S&P 500 contains both components (for example, the value stocks within the S&P 500 Index rose almost 1 percent on Monday while the growth stocks fell about 1 percent, leaving the S&P 500 flat for the day).
Traditionally, value stocks outperform growth in periods of economic slowdowns and increased market volatility, while growth stocks outperform during periods of rapid expansion. As seen in the chart below, growth stocks have outperformed value stocks during the current economic expansion. However, the momentum has started to shift to value stocks in the last few weeks.
The global economic slowdown during the second quarter may be one reason investors are purchasing more value stocks. Another reason is that the dividend yield on the S&P 500 is greater than the yield on a 10-Year U.S. Treasury bond. This means an investor can earn more income from owning the higher dividend-paying value stocks in the S&P 500 than they can on a long term Treasury bond.
Should You Invest in Growth or Value?
The tug of war is likely to continue as lower interest rates could benefit both value and growth investors. Growth investors are counting on the Federal Reserve to reduce short-term rates this week. This could help extend the current economic cycle, which is supportive of growth. But as noted above, value investors could also benefit from lower interest rates if the spread or the difference between the dividend yield of the stock market and the yield on the 10-Year US Treasury bond increases.
Stock market returns tend to be positive even after the Federal Reserve starts cutting interest rates, unless we are heading into a recession. The latest headlines suggest global economic growth has slowed, but continues to be positive. This is good news for stocks, whether you're a value or growth investor.
While growth themes have outperformed over the last 10 years, it doesn’t guarantee value stocks will outperform over the next decade. It’s nearly impossible to predict which way the knot will move in the tug of war between value and growth stocks. At Security National Wealth Management, our time-tested approach of a diversified portfolio helps provide opportunities no matter what way the momentum swings.
Helping you be an informed investor is our goal in sharing this information. Information is the key to making sound decisions that help you achieve your financial goals. Please feel free to contact one of our financial professionals with any questions about the markets, or investments in your own portfolio.