Is Growth Ready to Outperform Value? - A Follow Up
Posted on
Tue, 7th November, 2006 by
Jeremy
Yesterday I posted on a graphic I found that displayed trends in value vs. growth. Today when my Morningstar Advisor newsletter showed up in my inbox, there was a link to this article: Are Growth Funds Poised to Sprint? This article goes into more depth about the lengthy conversation that has been ongoing in the original post. A few good comments from the article that tie into what I posted about yesterday:
The overlap between growth and value managers isn’t a complete anomaly. Value managers have to consider a company’s future growth when assessing relative value measures or when modeling a firm’s intrinsic worth. Likewise, growth managers have to figure out how much they are willing to pay for a company’s future growth potential. But the fact that skilled fund managers are fishing in each other’s ponds suggests some parity in the marketplace.
and:
The strong performance of value over growth has undoubtedly left some investors overexposed to value funds. You may find that now is indeed a good time to add to growth–not because it is about to take off, but because it’s the smart long-term portfolio move to make.
Courtesy of: Are Growth Funds Poised to Sprint?
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Based on that fool.com article we stumbled across in our discussion yesterday, I’m having a hard time swallowing the conclusion from the Morningstar article: “…a good time to add to growth…because it’s the smart long-term portfolio move to make”.
What is the support for that statement? IFF value-heavy trounces growth-heavy over the long run (i.e. since 1927, per the data presented in that fool.com article), why would it be smart to ever pollute one’s portfolio with growth-heavy investments over the long run?
I think that is part of the problem, is that depending on what index or criteria you use for growth or value, the different the results. I have seen some articles showing value only performing better than growth over the long-term (since the 1920’s) by only a fraction of a percent, and others saying the long-term average places value at over a 5% better return. I guess there may never be a definitive answer, but I think to some extent over the long-term value, or buying “cheap” stocks will be better to some extent.
In regards to what Morningstar is saying that you quoted, I think that is a very true statement. People have been dumping most of their money into value over the past few years, myself included. I have very little growth in my portfolio, probably less than 5%. So like everyone, I’ve been following the strong returns.
But that is the problem, is if you become overweight in value, if the tides turn, you could be left holding the bag as growth takes off and your value holdings drop. This is no different than investing in only specific sectors. If you shifting your whole portfolio into financials because of the returns, what happens when they reverse course and a new sector takes off? You aren’t diversified, so your portfolio may not perform as well as if you had broadened across various sectors or asset classes.
So I think that is what they are saying, is that you should evaluate your portfolio and be ready to make necessary adjustments to rebalance as necessary so you aren’t overexposed to one segment of the market.
And that has been proven, that proper asset allocation will in almost every instance win out over the long-term.
Thanks for taking the time to respond over the past several days. I hope this discussion has not grown old for you.
1. If you concur that long-term value is the better approach, when discussing funds earmarked for the long-term, why even consider growth? Where is the graph that shows an asset allocation that mixes value and growth, and outperforms value? Based on the inverse relative performance relationship between value and growth that you posted this week, I can accept that a mixed portfolio will be less volatile. But over the long-term, if you mix a better performer with a lesser performer, your results will fall out in between the two. Am I on solid arithmetic ground here?
2. Regarding rebalancing, I am more comfortable with that argument, if that is what they meant by “might be time to move some funds into growth”. IFF someone accepts a particular portfolio mix, they are rebalancing periodically anyway. Have the “financial media” (spoken with appropriate levels of Gen X cynicism) gone to all the trouble of making an argument for cyclical value vs. growth performance as a round-about way of reminding people to keep their portfolio mix in line? Then why don’t they just say “sell where you are overweight and buy where you are underweight”? Just trying to Keep It Simple(tm) here. ;-\
3. Just a reminder that in this week’s discussion, we seem to agree that there is a difference between pure value investing and what is practiced by “value fund” managers. As you pointed out in your fund investigation, there is a non-trivial overlap in the holdings of value and growth funds. So in that sense, value has already “moved” into growth, and asset allocation between value and growth becomes a muddy obscure affair.
The discussion never grows old, I love when people can has out ideas and expand on what starts out to be a simple observation.
In regards to number 1, I think you answered it yourself in your own number 2. Whilst long-term, value may edge out over growth, that does not mean someone should simply only invest in value. It comes down to having an asset mix, and rebalancing as necessary. Such as right now, most people are very heavy in value, and rightfully so. When growth picks up and starts to perform better than value, you could stick with your value allocation and still benefit in the long run. But, by proactively making an allocation adjustment to introduce a larger position of the outperforming growth stocks you will likely obtain a long-term gain that is greater than sticking with strictly value alone.
And you are right, I think the media is more or less using the value and growth argument more or less to remind people to rebalance. We have been on a nice run the past few years in value, and investors may have swayed from their original asset allocation that is suitable for their investment objectives. Of course, that doesn’t make a good news story by just reminding people to rebalance their portfolios!