Quick: Is that blue-chip stock mutual fund you own a "growth" fund or a "value" fund?
The penalty for not knowing could be steep over the next few years.
That certainly has turned out to be true for many investors so far in this decade. On average, blue-chip value funds have generated nearly twice the returns of their growth-stock counterparts over the last five years.
People who have been short on value stocks have paid a price.
Now the buzz on Wall Street is that big-name growth stocks are taking the market lead, and could be poised for a multiyear stretch of strong performance.
That view could be early. Still, the stock market is all about cycles, and much of investing success depends on being aboard when a powerful new cycle gets going, whatever the catalyst.
"Growth" and "value" are to investing what "liberal" and "conservative" are to politics: generic terms that suggest polar-opposite viewpoints, when in reality the differences between them often are many shades of gray.
The classic definition of a growth company is one whose earnings are expected to grow at a dependable--and rapid--pace. The market is supposed to reward that growth by keeping the company's stock at a premium price relative to underlying earnings per share, the net value of the company's assets and other measures.
A value company, by contrast, traditionally has been one whose earnings either are growing at a comparatively slow pace, or whose growth is cyclical in nature (i.e., undependable). Value shares tend to reflect those growth handicaps by selling at a fairly low prices relative to earnings and other measures.
In practice, growth and value always are in the eye of the beholder.
A common refrain on Wall Street these days is that many big-name growth stocks of the 1990s now are value issues, at least in terms of price-to-earnings ratios. After badly lagging behind the broader market over the last six years, the stocks are cheap, some assert.
Cases in point: Microsoft Corp. and Intel Corp. are holdings of the Third Avenue Value fund managed by Marty Whitman, one of the pillars of the value-investing discipline.
It would have been impossible to imagine Whitman touching most tech stocks in the late 1990s. But this year, he said, he was able to buy Microsoft and Intel each for less than 15 times annual earnings per share. (He arrives at that P/E ratio by adjusting the stock prices for the per-share value of the companies' balance-sheet cash.)
To put that P/E in perspective, the average blue-chip stock in the Standard & Poor's 500 index sells for about 16 times estimated 2006 operating earnings.
Yet Microsoft, Intel and other major tech issues also still qualify as bona-fide growth stocks to many fund managers of that persuasion.
Growth Fund of America, managed by the Los Angeles-based American Funds group, had Internet search leader Google Inc. as its largest single holding as of Sept. 30. Also among the fund's top 10 holdings were tech titans Oracle Corp., Cisco Systems Inc. and Microsoft.
Paul Herbert, an analyst at Morningstar Inc. in Chicago, notes that Growth Fund of America has always had "an eye for value," despite its growth moniker. So it isn't surprising that, like Whitman, the fund's managers would find some tech stocks to be too cheap to ignore, he said.
But in a recent report, Herbert said he's concerned that Growth Fund of America "doesn't appear to be very well positioned for the rebound in the type of beaten-down large-cap growth names that appear to be the cheapest right now."When many on Wall Street think of classic growth stocks, the names that pop up tend to be those of old-line consumer-oriented companies such as Wal-Mart Stores Inc., Pfizer Inc., Coca-Cola Co. and Time Warner Inc. All have been miserable stocks to own since 1999.
Is it their time to shine again? That's the bet of plenty of traditional big-stock growth funds.
For individual investors who are fearful of missing out on a growth-stock comeback, a logical first step would be to look at what you already own. In the case of mutual funds, that means studying their portfolios.
If you own a fund that is classified as a big-stock growth fund, you'll have to decide whether its holdings give you the kind of growth exposure that you want. If they don't, you may have to look for another fund. (If you have a 401(k) plan, first look at your options there.)
What about value funds? If you own one that has performed well since 1999, it probably has held a lot of financial, energy and industrial names.
Don't abandon value stocks, most financial advisors say. But it may be prudent to shift some of your profit from value funds into growth funds, particularly if you lack growth entirely.
The market's cycles are inherently unpredictable. It makes sense to always have some stake in both value and growth.
Tom Petruno is a columnist for the Los Angeles Times, a Tribune Co. newspaper.