What Are Growth Stocks and Investing in Them

A growth stock is a share of a company that is growing at a significant rate and often trades at a high valuation compared to a value stock. These companies might be in their early start-up stages, or perhaps going through aggressive expansion, but either way, their goal is growth. Because they are using their capital to invest in growth, they usually don’t pay dividends. Instead, they will reinvest their earnings back into the company to help it grow.

Many growth stocks are in startup industries that have flourished in recent years and may not have existed a few decades ago. This could include biotech, cannabis and artificial intelligence, but growth stocks can also be found in more traditional industries such as transportation, energy and entertainment. It all depends on the company issuing the shares and what it does.

Growth companies tend to have a unique product or product line, which facilitates their rapid growth beyond the rest of the industry. They may have proprietary technology, special access to certain resources, or incredibly growth-oriented management. Whatever the case, they’ll want to stay ahead of the competition, so there’s a good chance they’ll reinvest their earnings into research and development.

Another trait of growing companies is the loyal following or customer base of their product and they can have a large market share. Taking away significant market share is what we’ve seen with some of the biggest growth stocks in recent decades.

Amazon was once one of the only e-commerce selling sites where consumers could buy a wide variety of products online. Facebook had a virtual monopoly on the concept of social networking, and then bought competitors like Instagram that entered its space. Google’s proprietary technology gave them the ability to outperform other search engines that had been around for years. In all these cases, the growing companies had a lock on a certain market and the company grew exponentially in a short time.

The advantages of investing in growth stocks

Growth stocks are not known for paying dividends, but what they are known for is growth. If the company is worth $100 million and the stock trades at $X and then grows to $100 million, it makes sense that the stock is worth 2X.

Investors may also hope that a company will also become an established dividend-paying asset, but this is a very long-term view for most.

Companies in aggressive expansion states could also split their shares. They do this to increase the number of shares outstanding, which helps the share price stay low and attracts more investors so they can raise more capital. If you had bought just 10 shares of Apple in 1980, you’d be holding 650 shares of the tech giant today after four splits in the past 30 years.

Beware of the dangers of growth stocks

The biggest danger with growth stocks is getting in too early when they are totally unproven entities. They can project an attractive image that makes them stand out from the other cheap stocks to buybut their business model could turn out to be an epic failure or they could go bankrupt, or the market could be full of hype like the cannabis market was.

Growth stocks can also be overvalued. This is because they attract a lot of attention and their share prices are based on expectations of future earnings. If those gains materialize well, the stock is not overvalued, but if the gains don’t materialize, stock prices can implode.

Growth stocks can also be some of the the most volatile stocks in the market, which does not bode well for the average retail investor. Without equipping themselves to analyze the waves of the stock market and know when to go up and down, high prices will take them on a scary ride; they will ultimately land not far from where they started and leave them with minimal or negative profits. Stock trading is not for everyone, and knowing which stocks to buy now is a true combination of art and science that requires years of trading experience.

A guide to growth investing

Investing in growth is like drinking red wine: a moderate amount each day is good for your health, but too much is harmful. A portfolio made up entirely of growth stocks can get wildly out of control, especially if profits are taken when they are available.

That said, investors will want to invest a portion of their portfolio in growth stocks or use small allocations to each company within a growth stock portfolio.

This is actually a great strategy for younger investors who are just building their retirement portfolios. It is better to invest in risky assets when they are young, with decades ahead of them, because they have time to ride out the market waves and grow their money.

Some financial experts warn against the inherently risky nature of growth stocks. Instead, they suggest buying stocks that have the potential to grow the dividend. These dividend stocks or dividend growth stocks usually have a higher amount of earnings per share and can increase their dividends over time. They argue that dividend-paying income stocks provide a better return on equity for long-term investment.

Dividend and value versus growth stocks

Value stocks may not be more active actions, but tend to be great value, as indicated by a lower price-to-earnings ratio. These companies tend to be around for a while and don’t generate huge amounts of speculative excitement.

Beginner investors may wonder what is the dividend yield and why it matters. The dividend yield is another strong indicator of a stock’s value, in addition to the P/E (price-to-earnings) ratio. The dividend yield formula is simply dividing the dollar value of annual dividends by the stock price). If a stock has a dividend yield of 4-6%, that’s considered pretty good.

A dividend investment strategy it’s the secret formula for some of Wall Street’s wealthiest investors. If you own a share of a stock with a price of $50, and the dividend yield is even 3%, that company will pay you $3 every year from its earnings. That dividend might not mean much to a casual investor with ten stocks, but if you owned 100,000 shares of that stock, it would generate a dividend of $3,000 per year. When you consider that big investors like Warren Buffet own millions of shares, it’s easy to see how dividend income alone can turn into a six-figure income.

Some stocks may be undervalued because of poor performance or because other similar companies are stealing the limelight. But even these underperforming companies could still issue significant dividends. However, income investors are not betting on a huge price increase that will produce sweet capital gains.

In general, value stocks tend to be issued by stable companies that aren’t going out of business anytime soon. Growth stocks, on the other hand, are usually issued by companies that have not yet stood the test of time and are inherently riskier. Many experienced investors will build a portfolio from both growth stocks and value stocks, based on the dividend payments and stability of the latter, and the potential capital gains of the former.

Buy growth stocks now

Buying and selling stocks is a great way to benefit from your capital appreciation, but you need to understand what you are buying. Growth stocks are great for investors looking to add value to their portfolio or ride a wave of potential success to the shores of big cash growth. These growth shares are issued by companies that are in an aggressive phase of expansion, either because it’s part of their business plan, or because they have a huge market share locked up with patented or proprietary technology.

However, since many growth stocks are newly founded startups, it can be difficult to predict where their stock price will go from one day to the next. That said, investors can mitigate their risk profile by balancing their portfolio of growth stocks with some value stocks. The ratio of the two will depend on how much risk they can handle.

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