Choosing stocks can be like choosing a new car. Do you want performance, or do you want something economical?
Sometimes, you can have both. But typically, you have to make some tradeoffs. Do you want to buy a stock that’s rocketing up in price, and has the experts on CNBC hyping it nonstop? Or, do you want to be more cautious and find a reliable stock, trading at a bargain price?
Inexperienced investors may not know which path to take. Speed or economy? Hype, or slow and steady?
When it comes to stocks, you have two choices: Growth, and value stocks.
First of all, what’s a stock?
A stock is a share of a company. If you own stock in a company, you own a small portion of it. In other words, shares are slivers of ownership, or equity, in a company.
There are different types of stocks, and there are different ways to describe certain stocks: We’re going to focus on “growth” and “value.”
What’s a growth stock?
When it comes to growth stocks, it’s all in the name.
Growth stocks are stocks that are rapidly becoming more valuable to investors. They’re issued by companies that are getting a lot of attention and media buzz, and that are usually posting impressive earnings.
The enthusiasm around these stocks translates into increased demand. And increased demand means higher share prices. This makes them more profitable for investors with these stocks in their portfolios. They’re seeing fast “growth.”
Growth stocks gain market momentum for a number of reasons, but typically, it’s because the underlying companies are doing something new and exciting, or have some sort of market advantage.
This could include a company on the verge of a clean energy breakthrough or introducing a new cancer treatment. A company that’s disrupting the way we get our groceries or send photos and videos to friends instantly, may be considered growth stocks.
It’s important to note that growth stocks may be more volatile than value stocks. That means that their performance may be less predictable. If you’re excited about growth stocks, you can still balance out your risk level out with value stocks and bonds.
What’s a value stock?
Value stocks are stocks that are trading at a bargain price; They’re a value, in other words. That does not, however, mean that they’re necessarily cheap.
You can think of it as getting a discounted stock, or buying shares at a good price. This means that you would think the stock is actually worth more than you’re paying for it, or that it’s undervalued.
Oftentimes, a value stock is a stock from a well-known company that has fallen out of favor with investors. It’s a company that’s slumped in the markets, despite having a relatively strong performance otherwise.
Generally, you’d buy a value stock with the expectation that its price will increase — though not as aggressively as a growth stock.
How can you identify a growth or value stock?
Identifying a value stock is an acquired skill. Even experienced investors and consultants don’t have a magic formula. But one way to think of it is that value stocks fly under the radar, while growth stocks are the current market rockstars.
Growth stocks are like Taylor Swift, and value stocks are Stevie Nicks, to put it another way. Swift is a fairly recent superstar, with a proven track record of hits over her relatively short career. Nicks, likewise, is a proven star. But her success has been sustained over decades — and she can still draw thousands of fans, despite not attracting as much recent attention.
At a very basic level, value stocks have low share prices in relation to corporate performance. If a company has a track record of growing sales, increasing earnings, and positive cash flow, it’s going to be an attractive investment.
If it checks all of those boxes and its share price is still relatively cheap? It might fit the bill as a value stock.
Growth stocks, on the other hand, tend to be more expensive. They’re in high demand, causing their prices to increase.
These companies are also posting high earnings (think Amazon, for example, which is currently trading above $1,440 per share), and tend to be out of step with the broader market — even if markets dip, growth stocks can remain high-flying.
What’s best for your portfolio?
In order to keep your holdings diversified, it could be a good idea to have mix of companies that are solid bets and available bargains while including new, dynamic companies with high potential.
For budding investors, compiling a portfolio with a healthy mix of both value and growth stocks is the less risky path forward.