Warren Buffett (Photo: AP)
If you are a financial professional, even in a sector in which your products expose consumers to no direct effects from stock price changes, you need to understand something about how the equity markets work, if only to hold your own in casual conversation. Here, a veteran life insurance agent and investment advisor looks at one of the long-running controversies that shapes those conversations.
"Be fearful when others are greedy, and greedy when others are fearful."-Warren Buffett
Investment experts are fond of spouting fancy terms and acronyms, often baffling the public, their clients, and even themselves. The building blocks supporting much of this financial jargon are "value" and "growth."
These two schools of thought have a cult-like following akin to asking a stock picker to either root for the Yankees or the Red Sox; there's no in-between.
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One might ask how you could go wrong picking a stock or fund deemed a "value"? After all, who doesn't like a good deal?
Conversely how could you screw up picking "growth"? Is expansion not the goal of every investor?
Value investing is the practice of selecting stocks or sectors believed to be trading below their intrinsic value, at a discount. Perhaps the most admired stock picker of all time, Warren Buffett, as well as his mentor, Benjamin Graham, have built an empire on searching for value. These are investors who try to make their money on the buy, purchasing companies at such a relatively low price that even a return to normal will secure a profit. From a technical standpoint, these are assets that have a lower than average price-to-book ratio, or price-to-earnings (P/E) ratio. Proponents of this strategy believe in seizing on a false reaction to stock price based on human emotion.
Growth investing takes the above philosophy and throws it out the window. Such investors ignore high multiples and soaring prices, anticipating even more appreciation. Thomas Rowe Price Jr. (founder of T. Rowe Price) is most often connected to this mentality. Where fans of value obsess over raw numbers, advocates of growth rely on hope and momentum.
Algorithms and stochastic research may dominate Wall Street, but at the end of the day these are two separate emotional decisions playing off one another. Investors from college kids on their Robin Hood app all the way up to hedge fund managers placing billion-dollar trades are ultimately convincing themselves that the underlying stock must fall into their category, and that their category must have a bright future.
Sadly, history has shown us that neither bet carries certainty.
From the Great Depression up through the Great Recession, value stocks have steadily outperformed growth. However, in recent history the tables have turned. Since the lowest point of the Great Recession, the stocks of the big companies in the "large-cap growth" sector have returned 418.3%. During the same timeframe, value companies have yielded 341.7%.
