Growth Stocks Return to Live Up to Their Name
Some of Wall Street’s long-favorite consumer growth stocks have quietly become the market’s leaders again, after two years or more on hiatus.
Software giant Microsoft, retailer Home Depot and beer king Anheuser-Busch are among the classic 1980s growth issues that have rebounded sharply this year, after tumbling in 1993.
The return of these old favorites is sparking debate over which stocks are likely to lead the next market rally, assuming the bull market that began in 1990 is intact.
In 1992 and 1993, “value” stocks were by far the market’s best performers. The value group includes many industrial, financial and utility shares that typically sell for relatively low prices compared to their per-share earnings--hence the term “value.”
“Growth” stocks, meanwhile, usually sell for higher prices relative to earnings, but for a reason: As the category name implies, these firms typically boast above-average--and consistent--earnings growth, as opposed to the often-cyclical earnings of value stocks.
Growth stocks had a terrific run between 1989 and 1991, far outperforming value stocks in each of those years. But by the beginning of 1992, the tide turned in favor of value stocks, for two big reasons.
* Many growth stocks had become overpriced after their 1989-91 run-up. And when earnings growth for some major drug companies and food companies began to slow in 1992 (victims of health care reform and slower consumer spending, respectively), investors became suspicious of the entire growth-stock universe.
* Wall Street began to bet heavily on a turnaround for large industrial firms, as demand for their products increased and as years of cost-cutting translated into vastly improved earnings potential. Financial stocks also surged as interest rates continued to fall.
The end result: Value stocks handily beat growth stocks in 1992 and in 1993, the first time value had back-to-back better years than growth since 1983-84.
Wilshire Associates, which tracks separate growth and value stock indexes, says its value index rose 14% in 1992, versus a 5.6% rise in the growth-stock index. In 1993, value rose 12.7% while growth fell 0.8%. (All figures are total returns: net price change plus dividend income.)
So far this year, both Wilshire indexes were down about 2% through the end of May. The growth sector has been hurt by continued weakness in some big-name stocks, including Coca-Cola and Wal-Mart. The value sector has suffered from declines in utilities and some major industrial names, such as the Big Three auto stocks.
But measured since last October--when the market began to rally briskly after stagnating for much of 1993--growth stocks have been outrunning value stocks by a wide margin, says Wilshire Associates analyst Mike Palmer.
From October through May, Wilshire’s growth index was up 2.2%, while the value index dropped 5.2%, Palmer says.
Even if you consider only year-to-date performance, the simple fact that growth and value are about even in performance may suggest that investors are less interested in buying value stocks, and perhaps less interested in selling growth stocks as well.
“One could argue that value stocks’ outperformance has come to an end,” Palmer says.
However, other yardsticks still give value an edge. The Standard & Poor’s/Barra Inc. growth and value indexes, which split the S&P; 500 into the two camps, show value up 0.4% through May and growth down 2.3%.
In any case, it’s clear that value is no longer way out in front. And the powerful resurgence this year of classic growth stocks such as Microsoft and Home Depot demonstrates that Wall Street’s appetite for its old favorites has improved markedly from 1993.
Why the return to growth stocks? William Dodge, strategist at Dean Witter Reynolds in New York, says growth stocks are benefiting in part because investors realize that at this stage of the economic cycle, “just any old (industrial) stock isn’t going to work anymore.”
Two years ago, you bought auto stocks because auto sales were still depressed but sure to rebound eventually. Today, after two years of strong sales, it’s reasonable to wonder how much better things can get for the auto industry. If you believe auto company earnings will peak in 1995, you probably aren’t going to buy the stocks now.
At the same time, earnings of many classic growth firms have continued to rise at annual rates of 15% or better since 1992, even as the stocks have been dashed.
The result: Price-to-earnings ratios, or P-Es, of growth stocks are in many cases significantly lower today than two years ago. If Wall Street takes an increasingly dim view of the earnings potential in value stocks, investors will naturally look to growth stocks as an alternative. And if they find lowered P-Es on those stocks, the justification for buying them becomes that much greater.
Of course, it may still be too early to say that growth stocks are taking over for value stocks. We may be in a stock-picker’s market where some issues in both camps will do well, while the aggregate indexes perform poorly.
But it’s worth noting that Wall Street responds to momentum. If more investors begin to perceive that the momentum is shifting back to growth stocks, their rebound could become a self-fulfilling prophecy.
Growth vs. Value
After lagging “value” stocks since 1992, growth stocks overall are neck-and-neck with value issues this year, though both categories are down. Here are growth and value stock total returns since 1984, as measured by Wilshire Associates Inc. indexes.
Year Growth Value 1984 +2.7% +18.8% 1985 +32.7 +30.0 1986 +15.2 +21.9 1987 +4.4 +3.3 1988 +14.8 +22.3 1989 +35.2 +24.4 1990 -0.1 -8.1 1991 +45.9 +25.1 1992 +5.6 +14.0 1993 -0.8 +12.7 1994* -1.9 -2.0
* through May 30 Source: Wilshire Associates
Return of the Old Favorites?
Some of the great growth stocks of the 1985-1991 period have begun to rebound this year, after two years in the doghouse. Some examples:
52-week Fri. Stock change: ’94 Stock high-low close 1993 1994 P-E* Microsoft 53 3/4-35 1/4 52 7/8 -6% +31% 26 Home Depot 47 1/4-35 45 1/2 -22 +15 35 Gillette 69 3/4-47 3/8 68 1/4 +5 +14 22 Anheus.-Busch 55 3/8-43 54 3/8 -16 +11 14 McDonald’s 62 1/2-46 61 3/8 +17 +8 18 Disney 48 5/8-36 44 5/8 -1 +5 22 Warner-Lambert 74 3/8-60 70 -2 +4 13 Kellogg 61 7/8-47 1/4 55 3/8 -15 -2 18 Coca-Cola 45 1/8-38 7/8 42 +7 -6 21 S&P; 500 482-439 460 +7% -1% 15
*P-E: price-to-earnings ratio based on estimated 1994 earnings per share, from Value Line Investment Survey. All stocks trade on NYSE except Microsoft (Nasdaq).
