Education & Information
Growth vs. Value Indicator
You will find there are trends within the market in which growth stocks will out perform value stocks and vice versa. These trends tend to be long-term, lasting for at least 2 or 3 years prior to a reversal of the trend in place. The Growth vs. Value Indicator will help you focus on the leading asset class and avoid the lagging class. It measures the performance of growth stocks relative to value stocks.
A growth stock is one in which the company is expected to deliver a high growth rate of earnings and sales. These stocks tend to trade at high valuations relative to its book value (assets minus liabilities) and its earnings. The P/E ratios tend to be high. Growth stocks pay little or no dividends because the company is reinvesting any earnings back in to the business. Value stocks, on the other hand, are those of companies that have slower growth in earnings and sales. They tend to be in mature industries that do not have good growth potential and, therefore, return earnings to shareholders through dividends. These stocks trade at low valuations relative to book value and earnings.
It is calculated by taking the level of the S&P 500 BARRA Growth Index (SGX) and subtracting the S&P 500 BARRA Value Index (SVX). That result is then divided by the S&P 500 BARRA Growth Index to arrive at a percentage. The percentage is then plotted on a bullish percent chart. For example, the week ending September 29, 2000 the SGX closed at 826.8 while the SVX closed at 628.7 making the difference 198.1 (826.8 – 628.7). The difference is divided by the SGX resulting in .2396 or 23.96% (198.1 divided by 826.8). When this percentage is increasing, growth stocks are performing better than value. When it’s declining, value stocks are the place to be (see chart below).
We have history on this indicator going back to November 1995. As you can see on the chart below, it is generally rising through the second half of the 1990’s indicating growth stocks were leading the market’s advance during that time. The 5 year stretch from 1995 through 1999 was a wonderful time to be focused on growth stocks as they exploded. That is exactly what this indicator would have had you doing. By concentrating your 401(k)’s, mutual fund accounts, variable annuities and individual stock selection in growth stocks, you would have had fabulous growth in your investment portfolio during that 4 year stretch. During the five year span from 1995 to 1999, the S&P 500 BARRA Growth Index advanced 298% while the S&P 500 BARRA Value Index advanced only half as much, by 149%.
Toward the end of the long advance in growth stocks, the media convinced investors that the “old economy” was dead and the only way to make money was to invest in the “new economy”. Just as the public jumped into that untimely message with both feet, new economy growth stocks peaked and the tumultuous slide began. The public provided the last bit of demand to push those tech stocks up into the stratosphere. Unfortunately, they were left holding the bag as insiders and Wall Street investment bankers cashed out.
In 2000 the chart began to change. Rather than a general advance, it began to move sideways indicating a potential change in market leadership from growth to value stocks may be at hand. In September 2000 the chart began an obvious decline. That was a conclusive signal that growth stocks should be sold and the focus should change to value stocks. In your 401(k)’s, mutual funds, variable annuities and individual stock portfolio, the growth stocks should have been sold and replaced with value type investments. By doing so, an investor could have entirely missed the bear market in 2000 and 2001 as it was mostly the growth stocks that declined while most value stocks actually advanced during this time. From September 2000 up to this writing (May 31, 2002) the Growth Index has declined by 35% while the Value Index has declined by 16%, less than half as much as the growth counterpart.
In our Arlington Capital MarketWatch issue dated November 3, 2000 we wrote to our clients, “Our indicators are suggesting that value stocks are taking over leadership in the market from the popular growth issues. Our Growth vs. Value bullish percent chart is now in a definitive downtrend. That means value stocks are outperforming growth stocks for the first time in several years. After many years of significantly under performing their growth counterparts, value is coming on strong. We believe a value approach will provide investors better opportunity with much less risk and volatility than a growth approach.” Click here to view this issue.
In the future, there will surely be major turning points in market leadership between the growth and value asset classes. Using this indicator will help guide your tactical asset allocation decisions helping you reduce risk to the class that will under perform and focus on the class that will provide better opportunity to profit. Current Growth vs. Value Chart
Growth vs. Value Chart
