Growth Investing

What is growth investing?

The Classic Definition: Investing in companies with high PE ratios.

The Correct Definition: Investing in companies where the price paid for growth < Value of that growth.

The Overall Evidence

The overall evidence is that growth stocks lag value stocks over long periods, if PE ratios or PBV ratios are used as proxies for growth and value (High PE stocks, High PBV ratios: High Growth: Low PE stocks, Low PBV stocks: Value Stocks)

However, there have been extended time periods where growth investing has outperformed value investing. For instance,

Growth investing seems to do much better when the overall growth rate of the market is good.

Growth investing also seems to do much better when the the term structure is much more upward sloping.

And active growth investors seem to beat growth indices more often than value investors beat value indices.

Small Cap Investing

Studies have consistently found that smaller firms (in terms of market value of equity) earn higher returns than larger firms of equivalent risk, where risk is defined in terms of the market beta. Figure 9.9 summarizes returns for stocks in ten market value classes, for the period from 1927 to 1983.

Figure 2: Small Stock Premiums from 1926 to 1990

Possible Explanations

Evidence from outside of the United States