What Is The Right Allocation Of Growth Vs. Value

What Is The Right Allocation Of Growth Vs. Value


The growth vs. value debate has seemingly been raging forever with no end in sight.

I discuss some arguments from both sides as well as historical precedent.

The riskiest allocation may be counterintuitive to many investors.

Ghing/iStock via Getty Images Thesis

Growth and value have traded off outperforming during different time periods. While many investors like to predict which style will outperform in the future, I view a blended approach as having the best risk-reward balance. Rather than pick growth or value, I aim to pick both stocks across all sectors and styles that I think can perform well. Introduction

I generally consider myself a growth investor because my expertise (or “edge”) is in technology, a sector that’s typically more growth-oriented. I recently published an article explaining why I don’t believe the growth investing bull run is over (for a counter-argument, I recommend Lyn Alden’s article about a resurgence in value). However, I actually have a relatively balanced portfolio that’s only slightly growth-weighted.

Many investors feel like they have to choose a side between growth and value, but at the same time they often benchmark their performance against the S&P 500 ( SPY ). This index is relatively balanced between growth and value; it doesn’t pick a side (we’ll take a look at the exact weighting later).

Moreover, many individual companies don’t fall evenly into the growth vs value debate. Per the Vanguard Growth ETF ( VUG ), Apple ( AAPL ) and Lowe’s ( LOW ) are considered growth stocks. But by most key metrics – revenue growth rate, capital returned to shareholders, profit margins, to some extent P/E – they look more like value stocks.

Thus, taking a side in this argument is somewhat illogical, since most investors will have some exposure to both philosophies. In theory, both philosophies can generate alpha; successful growth stocks can outperform as they realize their future potential, and successful value stocks can outperform as they realize their intrinsic value and return capital to shareholders.

Rather than insisting that growth will outperform value – or vice versa – a better question to consider is what weighting is most appropriate. This article provides three possible weightings that investors can choose from depending on their view of the future. Historical Precedent

Whether growth or value outperformed in the past depends on what period of time we consider. As such, many contradicting studies have been published: Value is one of six factors that beat the market according to multiple academic studies ( source: MSCI ). While growth is not among these factors, value – along with three other factors in small size, low volatility, and high yield – has underperformed the market over the last 10 years.

Revenue growth is responsible for 71% of the top performing stocks’ long term returns (source: Boston Consulting Group ).

Value outperformed growth on a risk-adjusted basis from 2000 until 2013, per Seeking Alpha’s John Dowdee .

Growth outperformed value over the last 10 years, with a 410% return in VUG vs a 181% return in VTV.

Safe to say that even if value has technically outperformed when measured over the longest time period, investors who go all in on this factor at the wrong time could end up getting burned. For example, a value investor who started out 10 years ago would take years to catch up to the overall market’s performance even if value started outperforming now. This is yet another indication that some form of balance is important.

Also of note is that individual stocks can break out of the larger trend. For example, high quality value stocks like BlackRock ( BLK ), Target ( TGT ), and UnitedHealth ( UNH ) outperformed the already very high performing growth index over the last 10 years. Similarly, growth stocks like Apple and Amazon ( AMZN ) hugely outperformed during the “lost decade” from 2000 to 2010, even with part of the dot com bubble factored in. This is further evidence that for individual stock pickers, the quality of one’s holdings is often the most important factor. The Baseline

Since most investors benchmark against the S&P 500, we can consider the weighting in the S&P 500 to be a default target. Source: Yardeni

The problem is that this weight can vary dramatically over time, as shown in the graph above. Right now, the weight is skewed towards growth at an unprecedented level. The ratio is slightly over 2:1 compared to 1.5:1 pre-COVID, and a minimum of 0.9:1 during the financial crisis. But […]

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