Many investors think of the stock market as one big investment emporium. In fact, you can make much better investment decisions when you consider the stock market in sectors. Two such large sectors are growth stock and value stocks. Growth stocks are those with bright futures such as Intel and Microsoft and technology companies. The problem with growth stocks is that everyone is excited about them. Consequently, their prices are high.
Value stocks however, do not have such bright futures, but are cheap stocks to own. They pay relatively large dividends and are usually "out of favor." Such stocks include AT&T and General Motors. No one gets excited about these firm's prospects, but value investors buy them to collect a higher than average dividend, to own stocks which hold up well when the market declines and to wait for the company's rebound phase when the stock will jump in price.
Which stocks are better to own? In every academic study I have reviewed, the value approach has had superior performance. This is due principally to the fact that growth companies are in the news, people jump on the bandwagon and become overly optimistic about making a killing in a growth stock. When the company can't keep up with the optimistic projections, the share price falls like a rock. Value stocks on the other hand, get beaten down in price because no one wants to own them, they are unexciting, they may have been plagued by recent bad news (e.g. Sears, Kodak) and their price falls. This is exactly the time to buy them. In fact, this philosophy is the cornerstone of the Dow Dividend Strategy which buys these wonderfully cheap value stocks.
So why do some investors continue to chase growth stocks? For some, the excitement is too good to pass up.
But if you want to be the tortoise and beat the hare in the long run, value investing is for you.
If you would like to know more about a value stock strategy that can reduce your volatility, protect your portfolio in a down market and take advantage of other investor's ill-formed emotional reactions, call for our booklet on our value investing program.