Value Versus Growth

Abstract

The common practice of classifying stocks as either value or growth on the basis of low or high price-to-book (PB) ratios—or, in general, any classification based on a criterion that includes current stock price—is equivocal. The practice is prone to confuse certain structural characteristics of stocks or firms with what are purely time influences. The PB of a firm may be structurally high (high on average over a long period of time), or high only momentarily (as a result of an exceptional price jump), so it would be a growth stock in the first case but not in the second. It would not be clear whether it is the structural characteristics of a stock or the time influences that are responsible for its performance. An experiment using an alternative definition of value and growth that deliberately separates the structural component from the time effects in PB ratios in six major markets demonstrates that, as soon as the time effects are eliminated in the classification process, value no longer outperforms.