Value Investing Still Beats Growth Investing, Historically

A few weeks ago I saw comments on Twitter regarding the Russell 3,000 Value and Growth indices having approximately the same returns since inception.

For example, here is Ben Johnson from Morningstar 1

As viewed from this tweet, and is born out in the data for the Russell indices, it appears that Value investing has no edge relative to growth investing over the past 40+ years! 2

So once again its valid to ask--is Value investing dead?

To test this, I followed the exact same methodology in my post last August: Value Investing: An Examination of the 1,000 Largest Firms.

One big change--I am now examining the 3,000 largest firms, not the 1,000 largest firms.

Is value dead?

Long story short: No.

As is shown below, when splitting firms in half on one simple value measure, the Price-to-Earnings ratio (P/E), Value has a historical edge over Growth.

What is Value Investing?

There are many forms of value investing and different investors have different definitions (i.e., stock pickers vs. quants). However, in this article, we outline what we mean by 'value investing' upfront. 3

Value investing is simply trying to buy stocks that are cheaper when compared to other stocks on a given fundamental/price metric. This is a common approach to defining value and growth investing in academic research.

But what does it mean for a stock to be cheap?

Let us look at a simple example. Pretend that there are only 4 stocks in the universe in which we can invest. We are going to simply look at the firms’ earnings each year, and compare that to the price one would pay if you bought the entire company's equity (i.e. the firm's market capitalization). This is the simple P/E ratio.

4 Stock Example:

  1. Stock 1: Earnings = $100, Market Cap = $1000, Price/Earnings = 10
  2. Stock 2: Earnings = $50, Market Cap = $1000, Price/Earnings = 20
  3. Stock 3: Earnings = $25, Market Cap = $1000, Price/Earnings = 40
  4. Stock 4: Earnings = $10, Market Cap = $1000, Price/Earnings = 100
1 2 3 4
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Disclaimer: Performance figures contained herein are hypothetical, unaudited and prepared by Alpha Architect, LLC; hypothetical results are intended for illustrative purposes only. Past ...

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