Why Value Investors Might Be Better Off With Growth Stocks Right Now
Are you a growth investor or a value investor? Most stock buyers have strong opinions about which camp they fall into.
Value investing focuses on looking for stocks that are trading below what you think the underlying business is worth based on metrics like sales, earnings, and book value. In essence, it’s looking for stocks the market is under-appreciating.
Growth investing is a strategy that looks for stocks early in their growth trajectory. While they might not be “cheap” by a value investor’s standards, in theory the massive growth ahead will more than make up for the expensive price tag.
But what happens when growth stocks start to look cheaper than traditional “value” plays? Let’s break down why value investors might find better deals in growth stocks at current levels.
The problem with labels
Don’t confuse the terms “growth” and “value” to mean certain sectors or types of companies. Most investors associate growth with technology stocks and value with mature, old-world companies.
But in reality, older companies can be in growth mode and technology companies can be value plays. Just look at Deere and Company (NYSE: DE) — a tractor business that was founded in 1868 and is now growing its earnings by nearly 20%!
Both growth and value investing are proven strategies, but neither describes a specific group of sectors or stocks.
“Value” stocks look expensive
Two of the most popular stocks among value investors — Johnson & Johnson (NYSE: JNJ) and Procter & Gamble (NYSE: PG) — have been decent places to invest during this bear market. Procter & Gamble is up over 9% in the last month, and Johnson & Johnson is actually up on the year.
But while these stocks have certainly benefited from the flight to safety, they don’t currently look cheap on a valuation basis. Johnson & Johnson trades at a price-to-earnings (P/E) ratio of 24, while Procter & Gamble’s P/E is 25. For some context, the average P/E for the S&P 500 right now is 19.
Those valuations wouldn’t look too bad if these companies were in growth mode, but both are growing in the low single digits. That is not to say anything critical of these businesses. They have long been two of the highest-quality companies in America, but at current prices its hard to see an argument for calling these “value” stocks.
“Growth” stocks look cheap
If you consider yourself a value investor, then you might start looking at technology companies for cheaper prices. As the market piles into safer names, growth stocks’ valuations have come down considerably.
Consider Google parent company Alphabet (NASDAQ: GOOG) (NASDAQ: GOOGL), which is now trading at a P/E ratio of 20 while still growing revenue by 23%.
This is a company that commands 92% of the search engine market, and it is cheaper on a valuation basis than the two “value” stocks mentioned earlier.
Deere and Company might be a very old business, but it has made massive investments in technology to drive future growth. The company has stated its investments in tech are aimed at achieving fully autonomous tractor/tillage solutions by 2026.
These investments appear to be paying off, as the company has grown its bottom line by 17% year over year. And from a valuation perspective, it’s looking quite cheap with a P/E ratio of 15.
Drop the labels and look for opportunities
Value investing has nothing to do with buying mature, stodgy companies, and growth investing doesn’t mean exclusively buying technology stocks. Investors will benefit from disassociating these types of companies from the “growth” and “value” labels and start looking for opportunities wherever they lie.
And right now, there appears to be more value opportunities in beaten-down technology companies than in the typical “value” plays.
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Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool’s board of directors. Mark Blank has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Alphabet (A shares) and Alphabet (C shares). The Motley Fool recommends Johnson & Johnson. The Motley Fool has a disclosure policy.