Does Growth Matter?
Thursday, March 7, 2013
Charles Rotblut, CFA
AAII Journal Editor

AAII Resources

Analyzing Growth Rates
Learn how to analyze and calculate earnings growth rates.

Risk and Return
Risk-adjusted returns for all AAII stock screens.

Traits to Look for in Growth Stocks
A top fund manager explains what he looks for.

AAII Discussion Boards
How much emphasis do you put on growth rates?

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Sentiment Survey

This week’s AAII Sentiment Survey results:
  Bullish: 31.1%, up 2.7 points
  Neutral: 30.4%, down 4.6 points
  Bearish: 38.5%, up 1.9 points

Long-term averages:
  Bullish: 39.0%
  Neutral: 30.5%
  Bearish: 30.5%

Take the AAII Sentiment Survey »

Many of you have already accepted my invitation to join me this November in Orlando, Florida, at the 2013 AAII Investor Conference. If you haven’t already registered, I encourage you to do so. As an incentive, we are offering an early registration discount.

The list of speakers is being finalized. Though I can’t name everyone who will be presenting, I can tell you the group will include Sam Stovall, Christine Benz, Sheldon Jacobs and other industry experts. Plus, you will have the opportunity to interact directly with the speakers and meet fellow AAII members.

This is always a popular event, and I hope you will be able to attend. To learn more and to register, visit

Is growth important to a rising stock price? My guess is that if I were to ask this to a random set of investors, the answer would absolutely be yes.

Growth makes a good story. Winners are preferred to losers and, when it comes to companies, winning is associated with growth. A company that is growing profits, or is expected to achieve strong earnings growth in the future, is often a company that attracts attention. Growth can put a stock in the news and it can attract investors. Growth can even lead to higher valuations.

But does growth make you money? The answer may surprise you.

A portfolio of large-cap growth stocks held from 1928 until 2011 would have realized an annualized return of 8.7%, based on data from the Ibbotson SBBI 2012 Classic Yearbook (Morningstar, 2012). This may seem like a good return until you consider that holding a broad universe of all large-cap stocks would have earned you an annualized return of 9.8% and a portfolio of value large-cap stocks achieved an annualized return of 10.8%. The same performance disparity appears when small-cap stocks are analyzed: growth lags both the all and value categories.

Think I’m looking at too long a period? James O’Shaughnessy ran the numbers from 1964 through December 31, 2009, in “What Works on Wall Street, Fourth Edition: The Classic Guide to the Best-Performing Investment Strategies of All Time” (McGraw-Hill, 2012). He concluded, “There’s very little difference in buying the stocks with the biggest annual gain in earnings and buying a broad universe like all stocks.”

Data from the stock screens on AAII add even further evidence. When editing Joe Lan’s article on analyzing growth rates, which you will find in this month’s AAII Journal, I looked to see how many of the top 10 AAII strategies ranked by risk-adjusted performance required a minimum level of growth. The answer was just one: O’Neil’s CAN SLIM. The rest either didn’t require a minimum level of growth or, in the cases of the Stock Market Winners screen and the Value on the Move—PEG with Estimate Growth screen, simply required earnings per share growth without specifying a minimum rate of growth.

There is a very simple reason why this is the case. Strong growth or the expectation of future strong growth leads to high expectations. High expectations in turn lead to high valuations. When the growth expectations are not met, the stock price tumbles. This is a cycle that has played out over and over and will continue to occur in the future as long as investors allow greed and hope to drown out what historical data shows.

I’m not anti-growth; quite the opposite. The simple presence of inflation requires companies to grow revenues, earnings and cash flow. Growth is also required if a company wants its stock’s price to rise. After all, one-half of the price-earnings (P/E) ratio is earnings and if profits don’t rise, either the price will fall or the ratio will rise. What I am pointing out is that you should not overpay for growth. Over time, the market rewards those who buy good companies with attractive valuations and punishes those who overpay for strong growth.

Food for thought the next time someone wants to talk to you about a company with a great growth story.

More on

The Week Ahead

Just two S&P 500 member companies are scheduled to report earnings next week, Urban Outfitters (URBN) on Monday and Costco Wholesale (COST) on Tuesday.

The week’s first economic reports of note will be February retail sales, February import and export prices and January business inventories, all of which will be released on Wednesday. Thursday will feature the February Producer Price Index (PPI). The February Consumer Price Index (CPI), the March Empire State manufacturing index, February industrial production and capacity and the preliminary March University of Michigan consumer confidence survey will be published on Friday.

The Treasury Department will auction $32 billion of three-year notes on Tuesday, $21 billion of 10-year notes on Wednesday and $13 billion of 30-year notes on Thursday.

Friday will be a quadruple witching day, meaning both option and futures contracts will expire.

AAII Sentiment Survey

Though aggregate pessimism increased as the Dow Jones industrial average reached new record highs, some individual investors described themselves as being more optimistic in the latest AAII Sentiment Survey.

Bullish sentiment, expectations that stock prices will rise over the next six months, rebounded by 2.7 percentage points to 31.1%. The improvement ended a six-week drop that saw optimism decline by a cumulative 23.9 percentage points. Even with the rebound, bullish sentiment is below its historical average of 39% for the second consecutive week.

Neutral sentiment, expectations that stock prices will stay essentially unchanged over the next six months, fell 4.6 percentage points to 30.4%. This puts neutral sentiment nearly even with its historical average of 30.5%.

Bearish sentiment, expectations that stock prices will fall over the next six months, rose 1.9 percentage points to 38.5%. During this span of three consecutive weekly increases, pessimism has risen by a cumulative 9.8 percentage points. The historical average is 30.5%.

The Dow’s new record high gave some AAII members reason to believe the current rally will continue. It also heightened concerns other AAII members have about the markets being overbought and due for a pullback in prices. In the background are mixed views about the pace of economic growth along with ongoing frustration with Washington.

This week’s special question asked AAII members how they perceived the health of the U.S. consumer. There was no consensus. The largest group (about 30% of respondents) described consumers as struggling or otherwise in poor shape. Conversely, the next largest group (about 20%) said consumers are improving. Smaller groups of respondents said the health of consumers is just fair, described consumers as being uncertain or good. Several AAII members believe some consumers are split between those who are doing well and those who are struggling.
Here is a sampling of the responses:

  • “Fairly good and continuing to gradually improve.”
  • “Not very strong overall, but improving as the real estate market bounces back.”
  • “Just fair. Incomes have not increased that much, but consumers’ balance sheets have improved.”
  • “Weak! Too much debt and too much uncertainty in our political system.”
  • “I believe we are seeing a widening gap between consumers who are doing pretty well and those who are doing very poorly.”
  • “Not so hot according to my wife.”

» Take the sentiment survey

AAII Asset Allocation Survey

February Asset Allocation Survey results:
Stocks/Stock Funds:
    62.5%, up 1.1 points
Bonds/Bond Funds:
    19.2%, down 1.0 points
    18.2%, down 0.2 points

Asset Allocation details:
    33.2%, up 4.2 points
Stock Funds:
    29.3%, down 3.09 points
    3.8%, down 0.4 points
Bond Funds:
    15.4%, down 0.6 points
    18.2%, down 0.1 points

Take the survey »

Equity allocations nearly reached a two-year high last month, according to the February AAII Asset Allocation survey. Conversely, fixed-income allocations declined to a 10-month low.

Stock and stock fund allocations rose 1.1 percentage points to 62.5%. This was the largest allocation to equities since April 2011. The historical average is 60%.

Bond and bond fund allocations declined 1.0 percentage points to 19.2%. This is the smallest allocation to fixed-income since April 2012. It is also the first time in seven months that bond and bond fund allocations are below 20%. Even with the drop, fixed-income allocations are above their historical average of 16% for the 44th consecutive month.

Cash allocations slipped 0.2 percentage points to 18.2%. Cash allocations have been at or near this level during five out of the past seven months. This was the 15th consecutive month that cash allocations are below their historical average of 24%.

AAII members remained optimistic about the short-term direction of stocks throughout much of February. The good start for the year combined with better-than-forecast earnings and signs of continued economic growth boosted equity allocations. Optimism did wane late in the month, and some AAII members have expressed concern that the stock market may have risen too far, too fast, a sign that the increased allocations to stocks did not reflect a significant shift in allocation strategies.

Last month’s special question asked AAII member how the 2013 tax changes impacted their portfolio allocation. The overwhelming majority said the changes had no impact. Many members said the bulk of their investments were held in retirement accounts that are unaffected by the new tax law.

» Take the Asset Allocation Survey