Value vs growth stocks: in 2024 you need both

Investors have witnessed extreme rotations in the leading investment style – value or growth – over the past few years. In 2024 the best bet looks likely to be not one end of the spectrum or the other, but to hold a diverse middle ground.

After robustly outperforming in 2022, last year the strategy of buying undervalued companies - value stocks - in the hopes their prices will rise, did not pay off. Instead, backing companies with strong earnings potential, or growth investing, won the day.

The difference was stark; the MSCI World Growth Index rose by 37% over the course of 2023*. The MSCI World Value Index managed only 12%*.

This is not what should have happened. Rising interest rates during 2023 would normally have been expected to negatively impact growth stocks, making value stocks more attractive.

But the artificial intelligence (AI) frenzy catapulted the Magnificent Seven most dominant tech companies – Apple, Alphabet, Microsoft, Amazon, Meta, Tesla and Nvidia – and gave a massive boost to growth strategies holding them. Value investors missed out because the style shuns those expensive giants.

Alessandro Dicorrado, manager of the value-focused Ninety One UK Special Situations fund, points out globally though, outside the US, “value has done rather better, with many of the traditional value factors like dividend yield, low-PE ratios and free cash flow yield all outperforming last year”.

Furthermore, coming into 2024 Alessandro says value stocks “still look inexpensive” on a variety of fronts, as “entire geographies like the UK, Europe and some emerging markets look generally inexpensive versus the US, even when sector-adjusted”.

Do growth stocks, then, look expensive?

James Hanford, manager of the growth-focused Comgest Growth Europe ex UK fund, says although investors in the growth index typically pay a higher premium, depending on an investor’s risk appetite and time horizon, “growth in our opinion remains reasonably priced”.

He gives the example of a company growing earnings at 15%. “Calculate its PE ratio depending on duration, and we find seven years of such growth should justify a PE of 28x (at a compound rate of 8%), 20 years would validate a PE over 70x and 30 years of close to 150x. So, if growth can last for a few decades, theoretical PEs soar!”

James sees tailwinds for growth investors this year in themes with persistence like digitalisation, ageing population and energy transition. Added support for the growth style is also expected from central bankers.

“The indication is that we are entering a more favourable monetary policy environment with numerous rate cuts anticipated for 2024, and historically falling interest rates have generally been favourable for valuations of growth stocks,” he says.

Is it game over for value investing?

With interest in AI expected to continue, and interest rates expected to fall, is it already game over for value investing in 2024? We don’t think so – even value investing guru Warren Buffett hedges his bets on this one, taking the view “growth is part of the value equation”.

A good example of a more symbiotic relationship between the two styles is in the Capital Group New Perspective fund, which straddles both value and growth investing, finding opportunities across the valuation spectrum.

“Around half of the portfolio is in what Morningstar categorises as ‘growth’ stocks, with half in what is categorised as ‘core’ and ‘value’ stocks, demonstrating the diverse range of opportunities we’re uncovering,” says Steve Smith, equity investment director at Capital Group.

Steve believes in 2024 “we could potentially see further volatility in market leadership [of value or growth style], albeit probably to a lesser extent than over the past few years”, due to conflicting signals around inflation, interest rates and growth rates in various areas of the economy over the short-term.

The key to navigating this, says Steve, is for investors not to view the world in terms of binary growth and value categorisations.

“Valuations are important, but it is essential to distinguish between real values and companies with deteriorating business prospects. Likewise, one could make the argument that there are ‘growth’ stocks that are valued attractively given their strong earnings growth”, he says.

The best investing decisions are often made when value, and growth or quality, combine as much as possible in the same investment.

“We have no strong opinion on which factor is going to do well in 2024,” says Ninety One’s Alessandro, “we think that if investors can consistently find growing companies with attractive economics that trade at cheap prices, then they will do well over time”.

“This is not an easy task of course,” he adds, “but it is where we tend to spend most of our time.” Investors would do well to seek out a similar route.

*Source: MSCI index factsheet, 29 December 2023

Past performance is not a reliable guide to future returns. You may not get back the amount originally invested, and tax rules can change over time. The views expressed are those of the author and fund managers and do not constitute financial advice.