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Picking shares for value or growth?

20 Jun 2022 1 month(s) ago

In falling markets, investors tend to shift towards safer options.

With markets going into bear market territory, one of the consequences is that investors are likely to change their thinking about how to value stocks. Should they go for ‘growth’ companies: companies that are not yet fully profitable but promise significant jumps in the coming years? Or should they plump for ‘value’ companies: companies already making good profits that will likely continue in the future?

Usually, the orientation shifts to the latter. In down times, reliable performance, especially when the companies pay reasonable dividends that are franked (tax advantaged), are usually considered safer than growth stocks. This is as much to do with emotions as anything intrinsic. Investors tend to become pessimistic, so are less likely to be listening to positive stories.

The shift may not be the best investment play in the long term. Those who pick the right growth stock can greatly outperform. But as Daniel Moore of Investors Mutual points out, that is how the thinking tends to go:

“Well established, quality businesses that are making a profit and have a competitive advantage, recurring earnings and sound management are performing substantially better than the market.”

Moore points to manufacturer Amcor and hauler Aurizon as solid performers.

“[With Amcor] the market suddenly realised a global leader in packaging with growing revenues and profits was attractive on 15 times profits (not revenue). Aurizon’s share price has risen 10% in the last three months. It still trades on a reasonable valuation of 13 times profits and pays a dividend yield close to 6%.”

Aurizon:

Moore says the market is moving away from new, “exciting, visionary, ground-breaking companies” to boring, necessary, solid companies.

“[There is] a shift towards well-established, quality businesses, with resilient cash flows, that make good profits and have solid growth prospects. While these types of companies haven’t been catching the market’s interest over the past few years, it seems like they are starting to again. It seems like old-fashioned concepts like quality and value, which we’ve always held on to, are becoming popular again.”

The question, as ever, is one of timing. Investing in value companies after their share prices have risen because of a change in market mood is obviously not going to be as effective as investing in them before sentiment changed. The same applies with growth stocks. The best time to invest in companies that have genuine prospects of big jumps in profitability is when investors turn away.

It underlines the point that all ‘rules’ of investment depend on the circumstances. That is, they are not ‘rules’ at all; they are simply ways of assessing things. Markets are driven very much by psychology as well as commercial and financial reality. It is what makes them so fascinating and challenging.

 

Reader note: This is general reporting only and should not be considered in any way to be investment or tax advice. It does not take into consideration the investment objectives, financial situation or particular needs of any particular investor. For more information please read our disclosure statement.

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