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What Are Growth Stocks?

There is no one-size-fits-all strategy for investing. After all, each investor has their own goals and risk tolerance. The good news is there are many investment strategies that investors of all skills, life stages, and risk tolerance levels can utilize. Investing in growth stocks is just one of these strategies.

These types of stocks offer substantially higher growth than other stock options on the market. Their faster rate generates faster earnings. Let’s review why they are important and review what the benefits and disadvantages of growth investing are.

Why Are Growth Stocks Important?

Growth stocks are stocks in companies that are anticipated to rapidly increase revenue and profits faster than average businesses in its industry or the market as a whole.

But growth stocks are more than just companies that have stock prices on the rise. These companies reinvest their earnings to continue the accelerated growth. They provide innovative products or services that outpace the market and continue the rapid expansion.

Characteristics of Growth Stocks

Growth stocks come in from all industries and in companies of all sizes. And they can be found both nationally and internationally. Even though growth stocks come from diverse companies, they do all share the same characteristics.

  • Low or Zero Dividends: Because the companies are growing rapidly and reinvesting their earnings, they generally do not pay dividends.
  • High Growth Rate: As the growth stock name suggests, these stocks grow at a significantly higher rate than average.
  • Risk Factor: While all investments come with some type of risk, growth stocks can generate substantial profits, but the uncertainty around them can make it a riskier investment than other options. Since these companies do not offer dividends, the only way an investor will see profits is if the company continues to perform well. If the company fails, losses will happen.

Examples of Growth Stocks

While the examples of growth stock below are from companies that are household names, growth stocks can also be found in smaller companies. In fact, smaller unknown companies provide great investment opportunities.

Consider a hypothetical new biotech start up that is working on a new treatment for Alzheimer’s. If the product is only in Phase I of its clinical trials, there is a chance that the FDA might not approve the drug to continue further. However, if the drug passes and is approved for use, investors could see a substantial profit. The reward comes with the possibility of loss if the drug causes major side effects or does not work as planned.

Pfizer

The Pfizer (NYSE: PFE) name shot to fame in 2020 as it became one of the top COVID-19 vaccine developers to fight the pandemic. But Pfizer has been developing more than just vaccines to fight COVID-19.

It has a well-established portfolio of drugs that generate billion of dollars of revenue annually. It currently has many products that are in Phase 3 clinical trials, including one for prostate cancer. The potential breakthroughs could lead to substantial increased wealth for investors.

Cisco

Cisco (NASDAQ: CSCO), the largest provider of networking hardware and software solutions including routers, wireless applications, and data centers is another growth stock. With the new hybrid work environment that the United States has shifted to in recent years, accelerated by the COVID-19 pandemic, Cisco has shined.

Long before Zoom, Cisco had a suite of Webex products that offer video conferencing, online event management, and training solutions. It also is focusing on becoming the largest enterprise cybersecurity company in the world.  

Starbucks

Starbucks (NASDAQ: SBUX) is the coffee chain that started in Seattle and has grown into a popular household name. As a result of always being flexible, even during the toughest of economic times, it continues to roll out new services.

Updated mobile order features, mobile-only order locations, improved rewards program, and the use of data-powered artificial intelligence continues to allow this brand to innovate. Stock in Starbucks gained over 500% in the past 10 years.

Tesla

Tesla (NASDAQ: TSLA) is the most recognizable name in EV (electric vehicles). Its innovative self-driving technology, performance, and demand make it a growth stock to watch. Under Elon Musk’s supervision, Tesla has continually outperformed the automotive industry in the last few years.

What Are Growth Stock Mutual Funds?

Growth stock mutual funds are what their name implies. They are mutual funds that buy and hold growth stocks.

First, we should start with defining what a mutual fund is. This is an investment vehicle that pools the money of multiple investors, then invests in public companies to buy securities. Investors see immediate diversification across multiple companies.

How Do Growth Stock Mutual Funds Work?

Growth stock mutual funds are mutual funds that focus on investing in growth stocks. Investors are instantly invested in many different growth stocks within the one investment vehicle. The fund manager focuses the investments in companies that have the potential to grow faster than the broader market.

Examples of Growth Stock Mutual Funds

There are multiple growth funds that you can invest in. Fidelity Growth Company (FDGRX) and Vanguard Growth Index (VIGAX) are two examples. However, don’t be fooled; growth mutual funds will not always have “growth” in the name.

Baron Discovery Fund (BDFFX) and Vanguard Explorer Fund (VEXPX) are both examples of this. If you are unsure if a mutual fund is a growth stock mutual fund, reach out to your financial advisor for guidance.

Benefits and Drawbacks of Growth Stocks

You can invest in growth stocks by purchasing them directly or through mutual funds. Before you do, consider the benefits and drawbacks to make sure they align with your goals.

Benefits

  • Growth stocks provide investors with the potential for faster growth to rapidly increase wealth.
  • They consistently beat the market and their prices continue to trend upward.
  • The companies are focused on their growth, so they reinvest the profits to help continue the trend.

Drawbacks

  • They are not guaranteed against loss.
  • They are a higher-risk investment compared to other stocks available on the market.
  • These stocks are also cyclical, which mirror the cycles of the economy.
  • During times of economic downturn, growth stocks can underperform.

Growth Stocks vs Value Stocks

We just explored how growth stocks provide strong growth in companies that are focused on reinvesting their profits to continually expand. Their potential is what makes them valuable in the eyes on investors.

Value stocks are companies that are trading below what they are currently worth. This could be for a variety of reasons, but no matter, these stocks are figuratively “on sale”. Investors count on the company’s reputation to rebound, turning their bargain find into an increase in profit.

How Do Investors Find Growth Stocks?

If you are interested in searching for growth stocks, you should begin looking at trends in various industries. As we continue to see the digital world expand, this has been a great industry for growth stocks to emerge. E-commerce, streaming services, cashless payments are all within this digital new focus. Try to identify the next “big thing”.

You will want to look for companies that have rising profit margins, high returns on equity, manageable debt, and strong sales. If you prefer to not do all the analysis yourself, you can invest in growth stock mutual funds or ask your financial advisor for recommendations.

Fitting Growth Stocks into Your Portfolio

Trading can be a complicated endeavor. Finding the right growth stocks to add to your portfolio can be exciting, but it comes with a risk. The wrong investment could result in a loss of your capital.

Utilize your financial advisor to provide suggestions of growth stocks or growth stock mutual funds to add to your portfolio. They can provide you with their insight on ways these investment vehicles can increase your wealth.