A comparative study on performance between value and growth stocks at the NSE

Abstract

For many years, financial researchers and investment analysts have argued that value stocks outperform growth stocks over time. While a large body of empirical evidence supports this argument, previous studies on NSE find no significant return spread between value and growth stocks. Previous studies on NSE define value stocks as stocks with extremely high values of B/M or E/P ratios and growth stocks as stocks with extremely low values of the two ratios. However, according to empirical evidence, one variable alone may not precisely distinguish between value and growth stocks because of possible misc1assification problems. This study sought to extend the evidence of value-growth spread at the NSE by using a two-variable dimension that defines value and growth stocks based on a combination of B/M and E/P ratios. Out of 62 firms listed on the NSE between 1999 and 2007, 52 firms were sampled for the study. For each year of study, the sampled firms were ranked into three groups; top 30 %, middle 40 %, and bottom 30 % on their B/M values. The firms were also ranked into similar groups on their E/P values. Intersections of the top 30% firms from the B/M and E/P rankings formed the value portfolio while intersections of the bottom 30% firms from the two rankings formed the growth portfolio. The two portfolios were rebalanced annually and their return differential compared over the study period. Secondary data from NSE was used to compute the B/M and E/P values; and also to compute portfolio returns. Findings of the study show that, between 1999 and 2007, value portfolios consistently outperformed growth portfolios in eight (8) of the nine (9) the years. The value-growth spread averaged 49.9% annually over the period. This is much higher than documented value premiums even in developed markets. A statistical test of the return spread shows a significant difference in performance between value and growth stocks. In summary, the study concludes that in the Kenyan stock market, value stocks are more profitable than growth stocks. Investors must however clearly distinguish between value and growth stocks by avoiding use of simple value-defining strategies.