Growth investing has become very popular recently because of its potential returns.
The average investor who invests in growth stocks can expect to see a return of around 20% per year.
This means that investors can potentially earn more than they would from holding cash or bonds.
How would you define growth investing?
Is it simply buying stocks that have a high potential for future growth?
Or does it also include companies that have already achieved significant growth?
Let’s explore this together.
What is growth investing?
Growth Investing is a form of active investment that focuses on companies with strong potential for long-term, sustainable, and profitable growth.
This differs from traditional value investing which seeks to buy stocks at low prices and hold them until they rise in value.
Growth investors look for signs of growth in earnings, revenue, or both. They also look for management teams who can deliver these results.
The term “growth” has become associated over the past few years with the tech sector – but it isn’t just about technology anymore.
In fact, there are many more sectors that offer attractive opportunities for growth investors today than ever before.
How do you find growth investments?
The most effective way to identify growth companies is through research. You can use financial publications such as Barron’s, Forbes, and Bloomberg Businessweek to help you spot growth companies.
These magazines cover hundreds of different industries, so they’re an excellent place to start your search.
You can also conduct Internet searches using keywords like “fast-growing,” “high growth” and “expanding.”
In addition, you should check out websites like Google Finance. Google Finance allows you to track the performance of individual companies.
Another good resource is the World Wide Web. Many online databases contain information about publicly traded companies.
One of the best resources is Yahoo! Finance, which offers free access to thousands of financial reports.
You can talk with friends who invest in growth companies. This is especially helpful if you live in a smaller market where many people don’t follow the same industry sectors.
You might also find useful data in annual reports, which contain detailed information about each company’s business activities. Annual reports include balance sheets, income statements, cash flow statements, and shareholder letters.
The last thing to do is to contact the company directly. Companies are more likely to respond if they know that someone is interested in them. If you’re lucky, the company may even send you some free research material.
Of course, you can always check out our blog for stock & ETF picks!
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What to look for when choosing growth stocks?
When looking at any stock, you need to consider both the short term and long term outlook.
Growth stocks have the potential to generate higher returns over time, but they could also experience sharp price declines.
For this reason, growth investors must be willing to accept volatility.
A company’s management team is another important factor to consider. A successful management team will be able to drive the company forward while keeping costs low.
The ability to manage expenses is particularly important for growth companies because they typically carry high levels of debt.
Management teams that focus on cost control will be better equipped to handle volatile markets.
Also, get to know what’s the expansion plan and how they’re planning to develop strong earnings growth prospects.
Finally, you’ll want to examine how much money the company earns. Earnings per share (EPS) is the most common measure of profitability.
EPS is calculated by dividing net earnings by total shares outstanding. High earnings mean that the company has enough profit to pay its shareholders.
As a general rule, growth stocks are not suitable for all types of investors. If you prefer stability, then you might be better off buying value stocks.
Value stocks are less expensive than growth stocks, but they usually have lower growth rates.
Other things to take note of is valuation and momentum.
The first criterion looks at the price per share (PPS) relative to the company’s estimated future cash flows.
A high PPS means that shareholders expect the company to generate large amounts of cash in the future.
Investors prefer this situation because it implies that the company will be able to pay dividends and reinvest profits into new projects. It also indicates that the stock is likely to appreciate in the future.
A low PPS suggests that the company will not be generating enough cash to meet its obligations. As a result, it will need to raise additional funds from outside investors.
This usually happens when the company needs to expand rapidly, or when it faces significant competition. Either way, the stock tends to decline in value.
A second factor is momentum. Momentum is the tendency of a security to move up or down over time.
When a stock moves higher, we call this upward momentum. Conversely, when a stock falls, we say that downward momentum exists.
When evaluating a company, you want to see evidence of both positive and negative momentum. For example, a company that has recently seen a sharp increase in sales would probably have positive momentum.
However, a company that had been losing money for several quarters would probably have negative momentum.
In addition to these factors, you want to avoid companies that are highly leveraged. Leverage refers to the amount of debt a company carries compared to its total assets.
High leverage increases risk because it makes a company susceptible to unexpected events that might cause financial difficulties.
You can find this out through various ratios such as their current ratio and debt/equity ratio.
Remember, choosing these stocks aren’t just based on themselves, but you’ll also have to compare them to industry peers and how they fair up against them.
This would give a better analysis of whether a company has potential for capital gains or not.
Growth Investing vs Value Investing
One of the biggest mistakes new investors make is confusing growth investing with value investing. Both strategies involve identifying undervalued or overvalued stocks. However, there are significant differences between these two approaches.
Value investors tend to buy stocks that are selling below their intrinsic values. They believe that these stocks offer the greatest opportunity for future gains. On the other hand, growth investors look for companies that have strong prospects for future growth.
Most growth investors focus on the long-term outlook of a particular company. They try to determine whether it’s worth paying a premium for a stock that has limited upside potential.
By contrast, value investors concentrate on the near-term outlook of a stock. They look for companies that are currently trading below their intrinsic value.
Value stocks are often considered safer investments because they tend to be less risky. However, growth stocks often outperform value stocks in periods of economic uncertainty.
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Growth Investing vs Dividend Investing
In dividend investing, you select stocks that pay the most dividends to maximise your income. Capital gains here are not as important as compared to growth investing.
Generally, growth investors don’t care too much about dividends – instead, they prefer not to have dividends at all!
That’s because dividends take away crucial profits that can be used for the company’s growth.
Instead of receiving dividends, growth investors would prefer the companies to reinvest in themselves so that stock prices grow even faster.
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Growth Investing vs Index Investing
Growth investing can be compared to index investing. In fact, many people use an index fund as a proxy for growth investing.
An index fund tracks the performance of a specific market sector. It does so by holding large blocks of securities from that industry. Examples include the S&P 500, Dow Jones Industrial Average, Russell 2000, FTSE 100, and MSCI EAFE.
Index funds are great for beginners who don’t yet understand the nuances of individual stocks. They provide diversification without requiring a lot of homework.
You just buy one type of investment and let the fund manager take care of everything else.
This is usually done via an ETF or a unit trust.
Is growth investing for you?
Growth investing can be an excellent strategy if you’re willing to accept some volatility.
If you like the idea of owning a company with strong potential for long term growth, then you should consider growth investing.
But remember that growth investing isn’t right for everyone. Growth investing requires patience, discipline, and a willingness to tolerate short-term losses.
It’s also worth noting that growth investing doesn’t always lead to great results.
You may find yourself holding onto a stock for years without seeing any appreciable gains.
That said, growth investing can still provide good returns over the long run.
So before making your final decision on whether to invest in growth stocks, ask yourself:
What is my personal risk appetite?
Am I patient enough to wait out periods of uncertainty?
Can I handle short-term losses?
Are my emotions stable enough to withstand volatile markets?
If you answered yes to all these questions, then growth investing could be the perfect fit for you.
How can you invest in growth stocks?
Once you’ve identified potential growth investments, you need to decide how much risk you’re willing to take. Growth investors often prefer to buy shares of small-cap companies because these stocks tend to outperform large caps.
Small-cap stocks are generally less expensive than larger ones. They also provide more opportunities for growth.
However, there are risks associated with buying smaller companies. For instance, some small cap stocks don’t always perform as expected. Others may not be able to sustain their growth rate.
To mitigate these risks, you’ll usually want to own a portfolio of at least 10 different growth stocks.
The best way to do this is by following the advice of experts who specialise in growth investing.
For example, Morningstar offers a free report called “Best Small Cap Stocks.” It ranks the top 100 small-cap stocks based on 5 key criteria.
Morningstar’s analysts use data from Standard & Poor’s (S&P) Capital IQ to calculate each company’s score.
This report will help you identify which small-caps offer the highest return while minimising risk.
Another option is to follow the recommendations of financial advisors who specialise in growth investing or ETFs such as the iShares Russell 2000 Growth ETF (IWO).
These investment vehicles allow you to diversify across multiple growth sectors.
In addition to ETFs, you can also purchase individual stocks.
Stocks like Facebook (FB), Netflix (NFLX), Amazon (AMZN), Google (GOOGL), and Apple (AAPL) have performed well over the past few years.
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Conclusion
We hope that we were able to answer your question about growth investing.
There are many ways to invest in growth stocks.
You can start by reading our article about the best growth stock picks.
It includes the most promising growth stocks that you can buy today.
Or, if you’d rather have someone help you with investing, our partners can help you!
