LOS h: Explain the rationales and primary concerns of value investors and growth investors and discuss the key risks of each investment style.

Q1. Which of the following is a justification of a value investing strategy?

A)   Current depressed earnings will rise in the future as they revert to the mean.

B)   The value of stock is volatile so a cheaply priced stock will see an increase in value in the future.

C)   The investor can add value using proper analysis of the risky firm.

Q2. The risk for growth investors is that the expected earnings growth does not occur. How will this low growth affect the price-multiple and stock prices, respectively?

A)   Decrease; decrease.

B)   Increase; decrease.

C)   Decrease; increase.

Q3. Which of the following statements about value and growth investors is least accurate?

A)   Value investors focus on the numerator of the P/E ratio while growth investors focus on the denominator.

B)   Growth investors may do better during an economic contraction than during an expansion.

C)   Growth investors seek industries where low expected earnings growth will drive the stock price down.

LOS h: Explain the rationales and primary concerns of value investors and growth investors and discuss the key risks of each investment style. fficeffice" />

Q1. Which of the following is a justification of a value investing strategy?

A)   Current depressed earnings will rise in the future as they revert to the mean.

B)   The value of stock is volatile so a cheaply priced stock will see an increase in value in the future.

C)   The investor can add value using proper analysis of the risky firm.

Correct answer is A)

There are two justifications for a value investing strategy. The first is that although a firm’s earnings are depressed now, the earnings will rise in the future as they revert to the mean. One of the risks of this strategy however is that there is a good reason why the stock is priced so cheaply. Some stocks will take a long time to increase in value. The investor needs to consider this before investing. The second justification for value investors is that growth investors expose themselves to the risk that earnings and price multiples will contract for high-priced growth stocks.

Q2. The risk for growth investors is that the expected earnings growth does not occur. How will this low growth affect the price-multiple and stock prices, respectively?

A)   Decrease; decrease.

B)   Increase; decrease.

C)   Decrease; increase.

Correct answer is A)

Growth investors search for firms or industries where high expected earnings growth will drive the stock price up. If the actual earnings are lower than expected, the price multiple will decrease and as a result the stock price will plunge.

Q3. Which of the following statements about value and growth investors is least accurate?

A)   Value investors focus on the numerator of the P/E ratio while growth investors focus on the denominator.

B)   Growth investors may do better during an economic contraction than during an expansion.

C)   Growth investors seek industries where low expected earnings growth will drive the stock price down.

Correct answer is C)

Growth investors search for firms and industries where high expected earnings growth will drive the stock price up even higher.

Thx!