P/E Divergence Between Growth and Value Stocks: The Wrong Way

Recently, growth and value stocks have seen a big divergence in valuations. One index has an as-reported P/E ratio of 33.66, while the other is at 18.92. The only problem is that it's the value stocks that have the 33.6 P/E, while the growth stocks have the 18.9 P/E.

Below we highlight a historical chart of trailing 12-month P/E ratios for the S&P 500 Growth and Value indices. As shown, the Value P/E has spiked significantly in recent months, as supposed value names that typically pay high dividends (financials, etc.) have seen a big drop in earnings.

This isn't the first time the divergence has happened, however. After growth valuations spiked during the tech bubble, value stocks followed with their own surge in P/E ratios in late '01 and '02. Ironically, growth stocks have held their value much better than value stocks have in 2008.

click to enlarge

Comments

[Nidhi Kadalbal:]

Interesting point. Agree that this discrepancy is most likely because of the falling earnings in financials, at least in the short term. I also think that there is a component from Baby boomers shifting to Value stocks over Growth stocks..

2008 May 19 04:39 PM

[pantograph:]

Some of this is due to the way the S&P Indices are formulated, which tends to prevent re-classification of stocks from growth to value and back. This reduces losses due to arbitrage and portfolio turnover for tracking funds, which is usually a good thing, if it doesn't get in the way of keeping the index focused.

2008 May 19 06:26 PM

[jimfpau:]

Historical records show that growth stocks over promise and under deliver in comparison to good dividend paying, well managed value stocks that show a more sustainable growth pattern over many years and even decades.
In reference to your graph and I'm little confused as to which stocks are in focus, but in general a flight to quality may be in play as investors run to the rocks for safety.
Please add to my knowledge if I'm missing something.

2008 May 19 09:59 PM

[fxtrader07:]

value is out of favour and has been sold relentlessly over the past 12 months by the majority of investors. "growth" will follow and come crashing down - once the herd starts realizing that there ain't no v-shaped economic recovery anytime soon, but rather, a prolonged subpar growth environment that squeezes profit margins and incomes alike.
regarding value stocks' valuation, apart from finance and homebuilding, these stocks are pretty cheap. the graph obviously is distorted by low profits/losses by banks, insurers and homebuilders.
there are sectors out there that offer stable, and mostly safe dividends of 6-10% which have been beaten downalong with everything else.
these will be stocks to shine over the coming 2-3 years when most money for investors from the stock market will come from dividends rather than (almost non-existant) stock price appreciation

2008 May 20 03:40 AM

[Nick Gogerty:]

the yield risk premium is pointing to 20% lower levels. nickgogerty.typepad.co...

2008 May 20 09:24 AM