Over the last five years, growth stocks have outperformed value stocks. The iShares Core S&P Growth ETF has advanced by around 70%, compared to an increase of just 30% for the iShares Core S&P Value ETF.
Over the past 12 months, however, growth stocks have declined by around 16%. Value stocks, on the other hand, have only declined by around 7%.
In other words, value stocks are holding up better in the volatile market conditions brought on by political instability, high inflation, and rising interest rates. With market volatility looking set to continue, could value stocks be making a comeback?
What are value stocks? As an investor, I look at how much cash I think a business is going to produce in the future to determine the price that I should pay for it today.
Some companies are likely to earn much more in the future than they do today. This is because their businesses are going to grow, or they are going to become much more efficient.
These are growth stocks. Examples of growth stocks include Croda International, Renishaw, and Rightmove.
On the other hand, some companies are unlikely to see substantial increases in earnings. The cash they generate now is likely to be representative of the cash that they’ll generate in the future.
These are value stocks. Examples include Lloyds Banking Group, National Grid, and Unilever.
Value stocks typically trade at lower price-to-earnings (P/E) ratios than growth stocks. This makes sense – if a company’s earnings aren’t going to increase significantly in the future, it’s reasonable to pay less for its shares today.
Making a comeback
Value stocks have been doing better than growth stocks in a difficult macroeconomic environment. To fight rising inflation, central banks have been increasing interest rates.
Higher interest rates mean that companies that are going to deliver cash to shareholders soon are more valuable than those whose returns are further in the future. That’s why value stocks have been making a comeback recently.
It looks to me like the macroeconomic conditions that have been helping value over growth are likely to continue for some time. The Bank of England’s most recent forecast has inflation reaching 11% later this year, indicating that the situation is likely to get worse before it gets better.
Should I buy value stocks?
Value stocks are doing well and I think that the conditions that have been the catalyst for their strong performance are likely to continue. I think, however, that the best opportunities for me at the moment are in growth stocks.
When I invest, I try to follow Warren Buffett’s instruction to be greedy when others are fearful. That means looking for bargains in the growth stocks that other investors are leaving behind.
As stock market attention shifts towards value, I think that some growth stocks are starting to reach attractive prices. These include Experian, Google, and StoneCo, each of which I’ve been buying for my portfolio recently.
In summary, value stocks have been performing well and I expect this to continue for a little while. For me, though, growth stocks are offering the best opportunities while investors focused on the near future are looking elsewhere.
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Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool’s board of directors. Stephen Wright has positions in Alphabet (C shares), Experian, Rightmove, and Stoneco LTD. The Motley Fool UK has recommended Alphabet (A shares), Alphabet (C shares), Croda International, Experian, Lloyds Banking Group, Renishaw, Rightmove, and Unilever. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.