The Difference between Growth and Value Stocks

If you’re new to investing or even if you’ve been in the game for some time, you may not quite understand what constitutes the difference between a growth and a value stock. You’re not alone: Even savvy investors struggle with delineating one from the other when they’re looking to build their portfolio, manage their risk, and increase their return on investment. The difficulties in distinguishing among growth and value stocks isn’t in the methods by which they are exchanged, nor does it affect the amount of ownership within a corporation, but instead the way in which each is viewed by investors and the market at large.

Both types of stocks are typical investment instruments, so they carry some risk of capital loss and neither one improves your likelihood of making more money over the other. Growth and value stocks are each subject to the same market fluctuations and your returns may vary based solely on the performance of the stock itself. But perhaps the biggest factors that come with deciding to invest in one stock against the other are identified by the types of companies linked to each stock and the price-to-earnings and price-to-book ratios that are associated with them.

Growth Stocks

These stocks are investments in a company that is speculated to show above-average growth relative to market conditions. You’ll find growth stocks largely affiliated with high-end corporations well known for innovative product development and a tendency to reinvest their revenue into vital company projects and overall expansion into the marketplace.

These corporations are defined by widespread and consistent success and usually run by well-respected leaders. They’re always offering a new and unique product to the consumer or a highly popular product that the public seemingly can’t live without. Tech companies, drug companies, entertainment companies – these are all good examples of growth stocks.

The price-to-earnings and price-to-book ratios are high with growth company stocks as the earnings of these corporations are only expected to improve, or grow, over time and, therefore, are very attractive to investors. As a result they usually cost more to own per share.

Investors don’t often receive dividends from growth stocks, though with recent changes in the tax laws that lowered the tax rates on corporate dividends, shareholders do receive dividend payments on some growth company investments. Traditionally, investors get returns based on the appreciation of future capital, which is determined by the disparity between the stock’s current value and the price that it’s trading for in the market at that time.

Investors who buy growth stocks are investing their money in the company based on the projected earning growth and not so much on the price per share as a majority of them boast household name recognition. LinkedIn, Starbucks, Walt Disney are all examples of growth companies.

Value Stocks

For investors who feel that putting their money into growth stocks requires an investment that may be too sizable for their taste, value stocks might be more to their liking. Much like with growth stocks, value stocks are aptly named as they are less costly to purchase because they trade at a price that isn’t indicative of their projected earnings or current sales figures.

Since these stocks are cheaper to purchase in relation to growth stocks, they are often undervalued stocks in the eyes of the market. By further contrast, value stocks have low price-to-earnings and price-to-book ratios and investors receive high-yield dividends. These are attractive options for investors who feel that there are up and coming stocks being overlooked by the market or an established brand has a stock price that has fallen further than normal.

Where growth stocks are sought after by investors for their potential future earnings, value stocks are typically audited by their past performance. Investors determine the estimated stock value and match it against the current going price per share.

It can, however, be tough to get the market to agree on a proper estimated value of that stock. In some instances, the company is a well-respected organization that has run into some trouble as of late and the stock price has dropped precipitously as a result. Smart investors are confident in the company’s previous track record and purchase the stock at the lower price in light of whatever controversy has occurred. If it’s something that is likely to blow over after a brief period of time, then that stock is a pretty good value.

Buying the stock now means a lower purchase price for a highly regarded company that normally trades much higher. It’s likely the price will rise back to that level and the investment makes sense. Market speculators feel that there’s less risk with value stocks because the companies have a strong reputation in the marketplace and the only real gamble is whether or not a stock price will bounce back. These projected conclusions are also based upon financial analysts coming to a common accord on the true value of a stock as determined by percentage growth of earnings and corporate revenue. So there’s still a modicum of growth forecast involved in the dissection of value stocks.

Buying the Stocks

Investment involves careful scrutiny and, with growth and value stocks alike, you must do your homework before putting your hard-earned money into either one of them. Theoretically, the value stock offers a higher immediate upside and buying a typically expensive stock at a lower price can get you in the door of a high-quality company. With growth stocks you’re looking at an earning potential that might increase far more moderately. But they’re usually considered a safer bet in comparison.

Just remember, there are no guarantees here. You can read and watch all of the financial whizzes and experts on the network finance shows, scour websites and other investor blogs for growth and value opportunities and search them out. Do some due diligence on their performance and the projected future forecasts and you may just find that diamond in the rough everyone has overlooked or it might be the next big thing where you can get in on the ground floor.