The approaches investors use to grow their investment portfolio are varied and sometimes confusing for those unfamiliar with the difference between particular investment styles.
Two popular — and often confused — strategies pursued by investors, value and growth, have clear differences. And because these strategies are so essential to understand, they each require some explanation.
What Is Value Investing?
Value investors carefully consider the fundamentals of a publicly traded company to determine its intrinsic value — or the “true” value of the asset based on the present value of its future cash flows. If a company’s stock price is sufficiently below the intrinsic value estimate, commonly known as a margin of safety, they invest. Otherwise, they pass.
Warren Buffett undoubtedly is the most famous value investor, though it was his mentor, Benjamin Graham, who pioneered the value-investing approach. Buffett and his partner, Charlie Munger, have built one of the world’s most successful and profitable business empires in Berkshire Hathaway following a value-oriented investment approach.
Like any other method, the most significant value investing challenge is market volatility. Corrections and even the occasional crash will occur, after all. Anyone who chooses to invest needs to be mentally prepared to weather those storms and stay the course.
What Is Growth Investing?
Growth investors, meanwhile, choose companies that exhibit above-average revenue or earnings growth. They pay close attention to business fundamentals and other performance metrics, looking for positive trends that could potentially continue far into the future. They’re often able to capitalize on the rising popularity of a stock, which also ends up fueling demand.
Thomas Rowe Price, of the eponymous investment management firm T. Rowe Price, is considered the father of growth investing. Many subscribers to this methodology have profited handsomely in recent times. For example, large-cap tech stocks — the hallmark of the modern growth portfolio — have surged since the Great Recession.
The risks of investing in growth stocks can be significant. Growth investors will often buy shares at an overvalued price if they believe there’s still room for growth, which could expose them to risk should the market enter a recession or prolonged correction.
Some of today’s publicly traded companies that experienced peaks amid the dot-com bubble have yet to regain their highs of the early 2000s — and others disappeared entirely. Timing matters for growth investors.
No matter which road you take to build your portfolio, a knowledge of the basics can help. Understand the benefits and differences presented by both growth and value investing to help paint a clear picture of how each strategy might influence your portfolio’s future outlook.
This article is for informational purposes only and is not a recommendation of any particular strategy. There are no assurances that any predicted results will actually occur.
The views are those of Matthew Blume as of the date of publication and are subject to change and to the disclaimers of Pekin Hardy Strauss Wealth Management.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.