It’s common to hear the terms “growth investing” or “value investing,” but what do these terms mean?
Many investors have vague notions of the differences, but it’s important to understand these very different investing strategies. These strategies can require more discipline than other investing theories. Both can also be quite technical.
Both methods require the ability to make accurate valuations, which are 75% science and 25% art. Good investors master the science. Great investors also have the instincts to take care of the other 25%.
Most investing strategies fit into one of these two camps. Which is the best approach for you? There are a few primary differences between growth and value investing:
- Growth investing focuses on the long-term prospects of the company.
- Does the company have the opportunity and ability to grow its revenues and profits?
- Value investing focuses on the intrinsic value of the company.
- Is the company worth more than the current stock price suggests? Value investors are looking for a good deal today with the expectation that the stock price will increase to match the value of the company.
The market typically overvalues growth companies, while value companies are undervalued.
It is challenging to determine a growth company’s value. Can you see the future? How do you apply a value to a company’s CEO, competitive advantages, and customer base? How can you project that largely subjective value into the future?
Is it better to shop for undervalued companies or companies poised for growth in the future? Successful investors exist for either strategy. Growth investing has more potential upside over time, but greater risk.
Perhaps the most effective option is to combine both! Warren Buffett is famous for utilizing both value and growth strategies. To use both strategies, look for undervalued companies with promising long-term prospects.