5 Key Points About Growth Investing
Scott Steinberg5-Minute Read
November 22, 2021
Growth investing refers to the practice of investing in growth stocks – like those of new or emerging companies whose profits and earnings are expected to exceed the typical average range of their market or industry sector.
In general, it’s a type of investment strategy that’s aimed at increasing one’s financial investment opportunities, boosting potential monetary returns, and growing your overall pool of investment capital. Noting that it often takes money to make money, understanding basic principles of growth investing may be of interest to anyone looking to grow their financial holdings, or master many investment styles.
But what are the best growth stocks to buy? What’s the difference between value investing and growth investing? And how can you improve your odds of taking home a big paycheck? As you might imagine, knowing which stocks to buy can be intimidating, particularly if you’re a beginner … especially as there’s no such thing as a safe bet when it comes to future investments.
Thankfully, keeping a few key hints, tips and strategies in mind can help you better understand growth investing and gain a better sense of whether a particular investment is right for you.
1. What Is Growth Investing?
Growth investing generally refers to a strategy that’s aimed at growing your nest egg and boosting your working capital. Essentially, to increase potential returns, growth investors aim to invest in growth stocks, which often come with higher risks and rewards attached. These “growth stocks” are typically shares of small and up-and-coming firms with earnings that are expected to grow at a higher-than-average rate when compared with peers.
In effect, growth investors typically look to achieve a high rate of return on any monies that they’ve invested. Accomplishing this feat means having to seek out and invest in shares of companies that promise to offer better than average growth rates when compared to the overall stock market. Likewise, it also means having to seek out and find firms that are experiencing significant growth in sales and earnings, and likely enjoy the benefit of significant customer enthusiasm and brand value.
Often, though not always, market leaders who’ve established a beachhead in difficult and competitive markets enjoy especially singular levels of brand recognition and/or competitive advantage. These types of firms may therefore be of special interest to growth investors. That’s because growth investing generally hinges on the principle of an investor seeking to buy and trade shares of stock in a company that will provide outsized returns. Of course, every investment comes with some level of risk, so be sure to do your research.
Note that growth investing strategy stands at odds with value investing strategy – an investment strategy that revolves around scooping up stocks at bargain prices and later selling them for a tidy profit down the road.
2. Value Investing Vs. Growth Investing
Value investing is just what it sounds like: It describes the practice of seeking out stocks that appear to be trading for less than they should be worth, both in real-world terms and actual book value. In other words, value investing is all about bargain hunting. To get good at value investing, you’ll want to research and look out for stocks that you believe have long-term potential but are currently trading at a lower price than their financial fundamentals indicate that they should hold. Put simply, value investors are always on the hunt for good deals, like low-priced stocks that they can pick up now for pennies, then sell for a higher price when these stocks’ value increases later down the road.
As a base rule, value investors tend to seek out shares of companies that have fallen out of favor with the general marketplace, but still have good fundamentals behind them. The general idea behind value investing is that these stocks will eventually bounce back and rise in price once other investors realize they’ve been undervaluing or overlooking them. Value stocks might offer dividends and come with lower price/earnings (P/E ratios) attached. They might also reflect lowered price points because of market concerns relating to the company in question, such as those surrounding disappointing earnings or recent publicity problems which have raised investor doubts.
But overall, because of their stronger fundamentals and lower price points, value-priced stocks generally tend to present less risk. As a result, growth investing is typically more suitable for those comfortable rolling the dice with their investments, and value investing more suitable for those who prefer to make more conservative bets.
3. How To Identify Growth Stocks From Other Stocks
Growth stocks are often priced at a premium and frequently come with a high P/E ratio attached. High-flying and high-performing companies such as Tesla, Netflix and Amazon should prove instantly recognizable examples. This shouldn’t come as a surprise, as growth investors often seek out investment opportunities tied to new technologies and emerging markets that are experiencing periods of rapid growth. Growth stocks aren’t the kind that you expect to make monies on by hanging onto them and receiving dividends – rather, they’re the kind that growth investors hope to acquire for a song, then flip and profit on to the tune of substantial gains.
Smaller and younger firms, or companies that have just started publicly trading, can often be found among the ranks of growth stocks. Often, earnings will be relatively low compared to price because they hold competitive advantages – valuable patents, new technologies, etc. – that have yet to be fully capitalized on. However, a growth investor (who’s looking at bigger picture, more long-term strategies) would expect these advantages to ultimately help vault the firm ahead of its rivals, outperforming other market entrants in the future.
Growth investors are considering just how much potential for growth any given firm enjoys. However, do be advised: There’s no single method utilized for evaluating growth stocks’ overall potential by every investor – rather, growth investors tend to apply the lens of personal experience, interest, and interpretation when they try to pick winners. In short, the appeal of any given growth stock is largely subjective to the individual growth investor.
4. What To Look For In Growth Stocks
Growth investors do (in a broad sense) tend to look for some common characteristics in growth stocks that may help you narrow down the field of prospective opportunities. For example, frequent signals that you may have found a growth stock include a strong track record of historical growth over the last few years, or sizable profit margins. Likewise, you might also look for strong past figures when it comes to return on investment (ROI) for investors, or compelling share price performance. Mind you, figures for growth stocks may differ by company size (billion-dollar firms in the 5 – 10% growth range per year may be good candidates, while smaller firms in the 11 – 15% range may also fit the bill). Likewise, pretax profit margins that exceed general industry norms or a firm’s own 5-year average may also be a good rule of thumb to look out for.
But in general, if you’re talking about growth stocks, you’re typically looking at companies that deliver strong return on equity, strong stock performance, and have the capacity to double within the next 5 years. As you might imagine, if you don’t mind making a few bets here and there, and taking on a little risk, they may prove just the type of gambles that an aspiring growth investor is looking for. Again, noting that financial investments are inherently risky bets, be sure to do your homework and talk to a financial professional – nothing is guaranteed when it comes to growth stocks, and the numbers don’t always tell the complete tale. After all: If picking a winner was as easy as browsing through a spreadsheet, we’d all be millionaires.
5. What About Growth Investment Funds?
Growth investment funds offer an alternative if you’re looking to spread your investment risk across a range of financial opportunities vs. picking stocks individually. Put simply, a growth investment fund refers to a class of mutual funds that are focused on investing in high-growth businesses.
Growth investment funds prioritize capital appreciation over the payout of dividends, and often invest in fast-moving, hard-charging fields of business such as the consumer and technology sectors. Because of their willingness to investment in growth stocks, they hold the potential to help you realize outsize returns on any monies that you choose to invest. But at the same time, they also require high levels of risk tolerance – and may only wind up producing major windfalls if you’re willing to invest for a period of 5 – 10 years.
Keep in mind that the investment market is often cyclical and that money often rotates between different industry sectors as well. It’s all too common to tie funds up in a single area of business – say, technology or health care – only to find that stock prices have suddenly sunk because investor interest has shifted to a different space. Being able to profit from growth investment funds, as is the case with many other types of investment funds, typically requires you to be willing to stay the course for a period of time.
The Bottom Line: Getting Your Growth Investment Strategy Started
A growth investment strategy hinges on finding and betting on growth stocks – shares of companies that hold the potential to deliver outsized returns. In many ways, it’s the opposite of a value investment strategy, which revolves around picking bargain-priced stock options. These strategies can be used in parallel.
Looking to try your hand on the stock market – and see if you’ve got what it takes to successfully grow your nest egg? You’ll want to research growth investing and other investment styles. To find out more, visit our Financial Learning Center.
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