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Sunday, April 29, 2007

Value versus Growth; "Boy...I say, I say, boy...ya do'in it all wrong!"

One of the most pernicious fallacies spread in the investing world is the difference between value and growth investing.

Growth investing is usually described as the opposite of value investing.

Growth investing is supposed to be the practice of picking investments with rapidly growing earnings and/ or sales with no focus on valuation.

Value investing is supposed to be the practice of picking "value" investments with low statistical indications of value, like price to earnings or price to book value.

The problem with this method of categorization is that it sets up a false dichotomy. Growth is a vital input to valuation. Some practitioners may ignore growth, but by no means do all value investors ignore growth. Neither do all growth investors categorically dismiss valuation as irrelevant.

It makes no sense to me why any investor would ignore either value or growth. For starters, like I already said, growth is a key input to valuation. A company is worth its future cash flows, so you need to know what those cash flows are and how they will grow to arrive at value.

A growth "investor" that ignores value is not an investor, but a speculator. If you haven't assessed where price is going and why based on valuation, then you are speculating (a.k.a. guessing) what will happen instead of assessing what can reasonably happen.

Growth and value investing are not opposites, they are different sides of the same coin. The people trying to draw strict distinctions between the two either don't understand valuation, or they're academics trying to over simplify investing so they can use computer models to do testing.

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.


Anonymous said...

Good point, though sometimes it's hard to arrive to definite conclusions

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