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BEING STREET SMART
by Sy Harding
What's Best, a Value or Growth Approach? October 11, 2001.
During the final years of the bull market the approach that paid off was a bias toward growth stocks and growth mutual funds. A value approach was significantly hampered as no one cared about valuations, Book Value, or P/E ratios. It was growth, growth, growth, which in that period also meant the tech sector.
But with the end of the bull market and the plunge in growth stocks, 50% declines in even the greatest of the great like G.E., investors 'discovered' the value approach. Money poured out of growth mutual funds and into value funds. The following two charts roughly show what happened.
As the above chart of the Fidelity Growth Fund shows, growth stocks were the hot items from the October 1998 low to the bull market peak in March, 2000.
At the same time, as the following chart of the Fidelity Value Fund shows, value stocks also began to recover from the October 1998 low. But by the fall of 1999 when the stock market bubble really began to spike up, led by growth stocks, some of the money that fueled that spike-up came out of value stocks, which topped out big-time in mid 1999. From that point (mid 1999), growth stocks more than doubled, the Fidelity Growth fund rallying from 50 to almost 110, while the Fidelity Value Fund plunged 28% from 50 to 36.
Then from the bull market top in March 2000, while the growth fund plunged 57% to its recent low, the value fund rose 45% to its recent high (in May). Not surprisingly investors rushed to catch up, rushing into value funds over the summer at such a pace that hundreds of new value funds were launched to keep up with the demand. During the summer we had many subscribers tell us they were going to only use value funds at our next buy signal "because a value approach clearly beats a growth approach".
We don't think so. They each have their periods when they outperform. The growth approach paid off big time in the spike up of the bull market. And clearly a value approach paid off during the down-legs of the bear market. The question now is which is most likely to outperform for the next period. The answer we believe will depend on whether the overall market is in an up-trend or a downtrend.
For instance, even on intermediate-term moves overall market direction seems to be the key to which approach will pay off best. As recently as the April/May rally earlier in the year, a growth approach produced twice the gains of a value approach. That can be seen in the following charts of the Russell 2000 Value Index, and Russell 2000 Growth Index as represented by the iShares exchange-traded-fund for each. NOTE: Due to the scale of the following charts it visually looks like the Value fund rose more in the April/June, A to B, rally than the Growth fund. Go by the numbers not the appearance.
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From its April low (A) to its subsequent high (B), the Russell 2000 Value Index rose 16%, not bad for a couple of months. But during the same period from its April low (A) to subsequent high (B) the Russell 2000 Growth Index rose 34%, more than twice as much.
It even shows up in the daily moves so far in the current rally. For instance, today the IWN (value) rose 1.4% while the IWO (growth) rose 2.9%.
If we're right on expectations for an upleg in the market, and growth funds outperform in coming months, it will probably take 3 months or more for most investors to catch on, (when quarterly returns for mutual funds are reported, and the media catches the change).