Horizon Kinetics On Growth Versus Value: A Helpful Disaggregation TechniqueVW Staff
The subject of the Musings is the ever-popular subject of Growth versus Value, which is expressed in the modern era by various style indexes. A common way of disaggregating growth from value is to aggregate companies by growth and value factors. Commonly used growth factors include three-year change in earnings per share, three-year change in revenue per share, and momentum, which means the rate at which the stock price is rising. Commonly used value factors are: price to book ratio (P/B), price to earnings ratio (P/E), and price to sales ratio (P/S). Companies are scored according to these factors and then placed in appropriate baskets.
It is not infrequently the case that the same company can be in both the growth and the value basket. For instance, the S&P 500 Growth Index and the S&P 500 Value Index both count Exxon in their top ten holdings. IBM, one of the top ten companies in the Value Index, is also in the Growth Index. Wells Fargo and J.P. Morgan are in the Value Index, but Bank of America is in the Growth Index. Viacom is in the Growth Index; AT&T is in the Value Index.
Let us begin to make some comparisons. The P/E ratio of Bank of America, based on 2013 consensus estimates, is 12.4x, J. P. Morgan is 9.25x, and Wells Fargo is 10.61x. By this metric Bank of America is the most expensive, so one can see why it would be ranked in the Growth Index. However, does anyone genuinely consider Bank of America a growth stock?
Before criticizing this disaggregation technique too strenuously, it is worth noting that the purpose is not necessarily to determine which are growth and which are value stocks. It is to group stocks into portfolios that should mirror the quantitative and quantifiable characteristics of portfolios managed by growth investors or by value investors. The purpose of the S&P 500 Growth Index is not to identify the growth companies, it is to create a portfolio using passive selection techniques that will statistically emulate an agglomeration of portfolios managed by growth investors. The same approach applies to value investors.
Other banks in the Value Index include Fifth Third, Sun Trust, Citigroup, and KeyCorp. They have P/E ratios ranging from 10.06x 2013 estimates to 11.89x. U.S Bancorp, another large bank, has a P/E of 11.09x, more or less the midpoint of the four banks just mentioned. U.S Bancorp is in the Growth Index. There are some banks that are in both indexes, including Bank of New York and M & T Bank, both with P/E ratios of roughly 12.5x.
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