Growth Investing: Grow At Your Own Pace

Growth Investing




G

rowth investing describes an investing style that focuses on capital gains. It is a style of investing which focuses on a company that has demonstrated a track record of high or emerging growth.

This blog post is second in a series of posts called – “All You Need To Know About Different Investing Strategies“.

Growth Investing

The growth investor is mainly concerned with the company’s earnings.  The earnings have to be strong for the investor to be willing to pay more for its’ stock.  Many growth investors want a great company that has little competition.

They invest in growth stocks. These are listed companies whose revenues and earnings are expected to grow at a fast rate relative to the rest of the market. Growth stocks tend towards increased capital value, rather than yielding income in the form of dividends. That’s because such companies reinvest earnings into capital projects that drive growth, and hence share price increases, rather than paying it out to shareholders as dividends.

So if growth investors aren’t in it for the dividends, what are they hoping to get? Growth investors expect the value of the stock they own to rise. That means that down the road growth investors could “sell high” what they bought for a relatively low price, realizing capital gains in the process. If the company keeps growing at its’ current rate, then the stock is well worth it!  Both the investor and the analyst set their expectations high when investing in growth stocks. Most growth stocks today can be found in sectors such as technology, biotech, and some consumer discretionary samples.

"The growth stock theory of investing requires patience, but is less stressful than trading, generally has less risk, and reduces brokerage commissions and income taxes."
Thomas Rowe Price, Jr.
Thomas Rowe Price, Jr.
Ace Investor

Should You Invest in Growth Stocks?

Growth stocks are associated with high-quality; successful companies whose earnings are expected to continue to grow at an above-average rate relative to the market. 

The open market often places a high value on growth stocks; therefore, growth stock investors also may see these stocks as having great worth and may be willing to pay more to own shares. 

On the other side these funds are high-risk investment instruments. Being high risk, it has potential to deliver high returns. 


It is a long-term investment. Hence, opt for these only if they are risk tolerant and are willing to invest for at least 5 to 10 years. 

If you are close to your retirement age, it would be prudent to not invest in it. 

A growth fund is not for those seeking to make a quick profit in a short time period. If the above information meets your investment goals and risk profile, you can invest in growth funds for long term capital appreciation.

How to Invest in Growth Stocks?

Most investors would agree on the fact that growth investing can be outstandingly profitable when done right; however, implementing a solid growth investing strategy is much easier said than done. A good idea without a strong implementation can do more harm than good to anyone’s portfolio, especially when it comes to growth investing, since high-growth companies tend to be particularly risky and volatile.

Companies disclose their earnings reports four times a year. The quarterly results offer investors an opportunity to examine how the company is performing at a detailed level. From there, analysts and professional fund managers use that information to project the company’s future earnings and sales growth and create price targets for the company’s stock price.

P/S and P/E can be two good ratios to take a quick look at when thinking about a growth stock. A reasonable P/S ratio with the expectation for high sales growth can be a good sign for the future stock price. A flat P/E or a forward P/E that is below the historical average can also mean the stock has a great deal more room to move higher.

Mediums of Growth Investing

Growth investing can be accomplished by various means or mediums, of course the easiest of them is via common stocks. Further in the blog we will discuss the options you have and nuances of each.

Common Stocks

Common stocks are shares of ownership of a corporation. It allows them to own a portion of the company without taking possession. Common stocks allow stockholders to vote on corporate issues, such as the board of directors and accepting takeover bids. Most of the time, stockholders receive one vote per share. Stockholders also receive a copy of the corporation’s annual report.

Private Company Stock

Private company stock is issued by a business that is privately owned. Private companies, sometimes called privately held companies, can have shareholders and issue stock. However, those shares don’t appear on public exchanges. With private company stock, there is no initial public offering (IPO), and private organizations don’t have to follow the filing requirements of the Securities and Exchange Commission (SEC). On the downside, private company stock is more difficult to place a value on, and it’s not as easy to liquidate. 

Warrants

The Stock Warrants are like the options that give the holder the right, but not the obligation to buy or sell the security at a specific time and a specific date. The purpose of the issue of warrants is that the companies include these into the debt or equity issues, as this helps in reducing the cost of financing and getting the assurance of additional capital in case the stock does well.

Options

Stock options are typically issued to employees of a company. They also have a set price and an expiration date. Stock options are awarded as an extra compensation and a way to motivate employees. Stock option awards are generally free, but employees need to pay an exercise price once they decide to buy stocks of a company.  

Rights

Stock rights are given to existing shareholders so they can preserve their fractions of ownership. Often this happens when a company issues additional shares through a secondary offering. Stock rights give an option to shareholders to buy shares directly from a company, usually at a lower price. Stock rights also trade separately and can be sold in the market prior to their expiration. These rights typically have shorter lifespans than stock warrants and employee stock options.

How to Calculate Growth Rate?

What is Growth Rate?

In the case of stocks, growth rate refers to the compounded percentage by which a company’s earnings grows over time. But because company earnings rarely ever grow at a constant percentage increase, in order arrive at a meaningful growth comparison figure, a rather complex algorithm must be employed. 

To keep things simple, let’s only look at Earnings Growth Rate.

What is Stock Growth Rate Useful For?

One popular use of stock growth rate figures is for comparing one company’s earnings increases to those of another company. Because the earnings increases are rarely ever constant it becomes difficult to compare the two. However, once you know the annualized growth rates of the companies, you then have a meaningful yardstick for determining which company’s earnings is growing at a faster pace.

Another popular use of stock growth rate figures is for calculating the expected rate of return on a stock investment. In this case, a company’s historical growth rate is used in combination with other measurements (current price and dividend) to estimate the future expected rate of return for a stock investment.

Where can you find the Dependent Variables?

You can usually find everything you need (periodic EPS figures) by going to the company’s website and clicking on Financial Statements.

Maths Equations

Earnings Growth Rate!

$$EGR = { \left(EPS This Year -\ EPS Last Year \over EPS Last Year\right)100 }$$

Famous Investors Associated with Growth Investing

Thomas Rowe Price is known as the “father of growth investing.”  His Investment Philosophy is price believed
that investors needed to focus more on individual stock-picking over the long term. This could be facilitated by discipline, consistently in the stock picking process, and thorough, fundamental research. 

In 70 years of money management, Fisher maintained a stellar record based on his belief in the strength of well-managed, high-quality growth stocks and his commitment to long-term investing. One of Fisher’s most famous investments was Motorola: he bought the stock in 1955 and didn’t sell it for the remainder of his life.

Peter Lynch is widely regarded as one of the best investors in history and the author of “One Up on Wall Street.”  Lynch’s common sense approach and quick wit made him one of the most quoted investors on Wall
Street. Fortunately for average investors, most of Lynch’s investment techniques aren’t too difficult to learn.

Today, Wanger is equally well known for his exceptional performance at the helm of the Acorn Fund. Mr. Wanger’s approach to investing is eclectic and opportunistic.Looking at numbers such as earnings growth and price multiples, he says, is less useful when evaluating small companies, with their shorter operating histories and more rapid change, than when judging big companies.

Final Thoughts

Growth companies thrive more in healthy and expanding economies. After all, growth is the product of increased demand and consumer spending. Most investing professionals do not rely on growth investing alone. They would look at other indicators that would support a pattern for future growth. It takes a great degree of skill to analyze growth stocks and constant and active up keeping with the company and industry as a whole. 

With a series of blogs on various investing styles, we have tried to make the reader comfortable with the idea of systematic investing and inculcate a tendency to follow a process in this fruitful journey.

Whether you’re new to investing or already have a plan in place, you can rely on TradeGyani for trusted advice on building your financial future.

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