There is nothing wrong with buying growth stocks: As long as you are not paying for the growth.
Shakespeare's Romeo and Juliet is one of literature's most famous love stories and tragedies. In my view it is also a perceptive commentary on the unpredictability of human existence and how seemingly irreconcilable positions can sometimes blend together, and form a perfect union to the amazement of sceptics.
In the world of investing, there has always been a traditional division between growth and value investors, and the conventional wisdom, to borrow Rudyard Kipling's phrase, is that "never the twain shall meet." However I beg to differ, and in my humble opinion, the twain do indeed meet and when they do, phenomenal gains are usually made by those who keep their ears and eyes open.
For example in the early 1980s, consumer stocks like Wal-Mart, Home Depot and Circuit City, were screamingly cheap with single digit P/E ratios. At the same time, the economy was just coming out of a recession brought about by Fed Chairman Paul Volker's successful fight against the raging inflation of that era, by means of high interest rates. Once the inflation came down, interest rates followed and consumers, with more disposable income in their wallets, started flocking to the shops. It is therefore no surprise that the best performing stock of the 1980s was Circuit City which benefited from the tremendous growth in consumer spending and was up about 8,265% over that decade. Without a shadow of doubt, the main reason for this superlative performance, was the combination of the stock's low earnings multiple at the beginning of the decade which would have drawn value investors to it, and the subsequent explosive growth in its earnings which attracted growth and momentum investors.
The same phenomenon took place in the 1990s, when stocks like Cisco Systems, EMC Corp and Dell, were also selling at single digit P/E ratios at the beginning of the decade. However, and unbeknown to the majority of investors, a burgeoning tsunami of growth in the form of the internet with its ever increasing data streams had started to move across computer networks. Cisco took advantage of this growth opportunity by building tools such as routers, which are necessary for transferring the data between computers and key junctions along the internet, as well as directing the data streams to their assigned destinations.
Again value met growth, and Cisco's stock multiplied more than 1,248 times over the 1990s. EMC Corp, whose stock went up by a more modest 683 times, also took advantage of the internet era by exploiting the need for enterprise customers to have space in which to store the ever growing amounts of data that was being generated both internally and externally through the internet.
I believe the key point to realise is that there is essentially no difference between value and growth stocks, and that the point of divergence where most investors get it wrong, is when they overpay for stocks in the hope that the initial price move upwards resulting from the good fundamentals, will continue. Once this happens, whatever investment merit the stocks have usually disappears and speculation takes over. The growth and momentum "investors" then come out in force and a tragedy similar to the doomed love between Romeo and Juliet, becomes inevitable as evidenced by the tech crash at the end of the 1990s.
In conclusion, there is nothing wrong with buying growth stocks: As long as you are not paying for the growth.
Happy Investing.
P.S. Wal-Mart and Cisco Systems are included in the Virtual Portfolio
Shakespeare's Romeo and Juliet is one of literature's most famous love stories and tragedies. In my view it is also a perceptive commentary on the unpredictability of human existence and how seemingly irreconcilable positions can sometimes blend together, and form a perfect union to the amazement of sceptics.
In the world of investing, there has always been a traditional division between growth and value investors, and the conventional wisdom, to borrow Rudyard Kipling's phrase, is that "never the twain shall meet." However I beg to differ, and in my humble opinion, the twain do indeed meet and when they do, phenomenal gains are usually made by those who keep their ears and eyes open.
For example in the early 1980s, consumer stocks like Wal-Mart, Home Depot and Circuit City, were screamingly cheap with single digit P/E ratios. At the same time, the economy was just coming out of a recession brought about by Fed Chairman Paul Volker's successful fight against the raging inflation of that era, by means of high interest rates. Once the inflation came down, interest rates followed and consumers, with more disposable income in their wallets, started flocking to the shops. It is therefore no surprise that the best performing stock of the 1980s was Circuit City which benefited from the tremendous growth in consumer spending and was up about 8,265% over that decade. Without a shadow of doubt, the main reason for this superlative performance, was the combination of the stock's low earnings multiple at the beginning of the decade which would have drawn value investors to it, and the subsequent explosive growth in its earnings which attracted growth and momentum investors.
The same phenomenon took place in the 1990s, when stocks like Cisco Systems, EMC Corp and Dell, were also selling at single digit P/E ratios at the beginning of the decade. However, and unbeknown to the majority of investors, a burgeoning tsunami of growth in the form of the internet with its ever increasing data streams had started to move across computer networks. Cisco took advantage of this growth opportunity by building tools such as routers, which are necessary for transferring the data between computers and key junctions along the internet, as well as directing the data streams to their assigned destinations.
Again value met growth, and Cisco's stock multiplied more than 1,248 times over the 1990s. EMC Corp, whose stock went up by a more modest 683 times, also took advantage of the internet era by exploiting the need for enterprise customers to have space in which to store the ever growing amounts of data that was being generated both internally and externally through the internet.
I believe the key point to realise is that there is essentially no difference between value and growth stocks, and that the point of divergence where most investors get it wrong, is when they overpay for stocks in the hope that the initial price move upwards resulting from the good fundamentals, will continue. Once this happens, whatever investment merit the stocks have usually disappears and speculation takes over. The growth and momentum "investors" then come out in force and a tragedy similar to the doomed love between Romeo and Juliet, becomes inevitable as evidenced by the tech crash at the end of the 1990s.
In conclusion, there is nothing wrong with buying growth stocks: As long as you are not paying for the growth.
Happy Investing.
P.S. Wal-Mart and Cisco Systems are included in the Virtual Portfolio
