Growth investing - How to become a growth investor
There are many different types of investing strategies employed by fund managers, pension portfolio managers and everyday investors. These include momentum investing, value investing, socially responsible investing and many more. However, the most popular type is growth investing in which growth investors seek out companies that are expected to grow faster than others.
Fortunately, there are a few metrics that investors can use to find this type of investment growth. After all, who would not have wanted to invest in the likes of Amazon, Tesla or Facebook early on in their business growth cycle?
In this article you will learn:
- What is growth investing? And a growth investment definition.
- A growth investment strategy used by large fund managers and billionaire investors.
- The difference between value vs growth investing and why understanding the distinction between them is essential.
- How to become a growth investor and invest in companies showing signs of investment growth in just a few simple steps.
- Exchanges in the world with fees starting at just $0.01 per share and minimum transactions fees of just $1 in US stocks!
- And much, much more!
What is growth investing? - A growth investing definition
Growth investing is a strategy that is used by investors to identify sectors, industries or companies with a high potential of investment growth. These companies are expected to grow at a faster rate than the rest of the market over a substantial period of time. A growth investment strategy is seen as a more offensive style of investing than defensive.
This is because in growth investments, investors take a more active approach in building their portfolio to generate a higher return on their capital. In contrast, defensive investing is a strategy used to generate passive income while protecting the capital you already have and is typically used when investing in bonds.
As investors are looking for growth investments, they would typically flock to companies that use all of their earnings, income, time, resources and profits to grow the business even more. As companies reinvest their earnings back into the business, growth stocks tend to not distribute earnings to shareholders in the form of dividends. These funds are typically used to grow the company further which is why growth investors are essentially trying to find companies that offer a high return on their investment capital, rather than looking for income as a dividend investor would.
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Having the platform downloaded now will also help you follow through the growth investing strategy and some of the growth stock examples further down the article. You can also trade multiple asset classes from the MetaTrader 5 trading platform after downloading your free platform here.
A growth investment strategy
There are several different methods to identify potential growth stocks. Which one you choose will depend on your knowledge, experience and resources available to you. The rule of thumb is to keep your risk and investment size low until you have built up more confidence and experience as with any form of investing there will be wins and losses.
Another factor to consider is how passive or active you would want to be as a growth investor. Some people have the time to research different financial ratios and metrics to find the best growth stocks themselves. Others have little time and prefer to have a more passive style. Let's take a look at both styles.
Active growth investing using financial ratios
One of the most important company metrics for growth investors to know about is current and historical earnings. This value helps to measure the amount of profit a company produces over a specific time period, usually the last quarter (three calendar months).
However, what is most important is how current earnings relate to historical earnings as to avoid any one-off anomalies. The key is to find a trend of positive earnings over time. Even this may not be enough for some of the best growth companies, as a lot of profit can be reinvested back into the business to help it grow. This is why growth investors will look at other earnings metrics such as the price to earnings ratio.
Picking growth investments using the price to earnings ratio
The price to earnings ratio, or P/E ratio for short, is used to compare a company's stock price relative to how much profit it is making. It is calculated by dividing the current price of a stock by its earnings per share value. A low P/E ratio means the company is undervalued and may be used for value investing.
For growth investing, however, investors will typically look for a high P/E ratio compared to other companies that operate in the same sector or industry. After all, growth investors are looking for companies that are in the 'sweet spot' of growth which means the expectations from investors are for higher sales and profits in the future.
Other financial ratios that are useful in growth investing include looking at a trend in sales and profitability, as well as product launches and fundamental analysis on the sector or economy as a whole.
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For most new investors, pouring through company reports and financial ratios may be too time-consuming and daunting without any experience. Fortunately, there is another way a growth investor can capitalise on investment growth opportunities. This brings us onto the next growth investing strategy which is passive growth investing using Growth ETFs.
Passive growth investing using Growth ETFs
Exchange Traded Funds, or ETFs for short, first launched in 1990 and is all about pooled investing. Essentially, an ETF is an investment fund whose aim is to track the performance of a certain market like an index, currency or commodity, as well as a sector, industry or basket of companies.
For example, let's take a look at the iShares S&P 500 Growth ETF (#IVW). iShares (a company by BlackRock) is the investment fund provider that creates, manages and maintains the fund's holdings. According to the iShares S&P 500 Growth ETF prospectus the fund's aim is to "track the investment results of an index composed of large-capitalization U.S. equities that exhibit growth characteristics."
The characteristics that define growth stocks are created from the index provider which in this case is Standard & Poor's (S&P). Each index provider has its own metrics. However, S&P uses the following 'growth metrics':
- Three years earnings to price growth
- Three years sales growth
- 12-month price momentum
As of July 2020, the fund has 283 stocks that meet these criteria with the biggest market capitalization stocks shown below:
The 283 stocks that satisfy the 'growth metrics' of S&P are from different sectors such as energy, financials, health care, communication and consumer technology. Within this list there is a big weighting towards Information Technology companies, as the exposure breakdown shows below:
Growth investors can use this information in two ways. They can either build individual positions in the companies listed within the ETFs holding list, thereby allowing S&P to do the financial ratio calculations for them. Alternatively, investors could simply invest in the ETF tracking the basket of growth stocks. With Admiral Markets you can do both!
Below is the long-term, daily chart of the iShares S&P 500 Growth ETF (#IVW):
Source: Admiral Markets MetaTrader 5, #IVW, Daily - Data range: from 30 October 2018 to 20 July 2020. Please note: Past performance is not a reliable indicator of future results. Last five-year performance: 2019 = +28.52%, 2018 = -1.37%, 2017 = +25.44%, 2016 = +5.17%, 2015 = +3.76%, 2014 = +13.01%).
In the above price chart, it's clear to see the significant rally higher from March 2020 after the coronavirus crash earlier on in the year. Interestingly, at the same time as this ETF went on to make a new all-time high price the actual S&P 500 stock market index was still trading below its all-time high price level. This is because the ETF only holds 283 stocks from the 500 in the S&P 500 index that meets the growth metrics discussed in the previous section.
This opens up some very interesting opportunities for new investors starting out with growth investing. With the Admiral Markets Invest.MT5 account account-holders can:
- Open an account with just €1 minimum deposit and invest from just $0.01 per share with minimum transaction fees of just $1 on US stocks.
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How to start growth investing
Once you've downloaded your FREE MetaTrader 5 trading platform you can search for the different Growth ETFs available to invest in, directly from the platform. To do so follow these simple steps:
- Open your free MetaTrader 5 trading platform.
- Open the Market Watch window from the View tab in the top menu.
- Right-click in the Market Watch and select Symbols.
- After selecting ETF CFDs (Contracts for Difference) you can type in 'growth' in the search box which will provide a list of instruments with this word in its name, as shown below.
A screenshot of the Symbols window in the MetaTrader 5 trading platform provided by Admiral Markets.
By clicking on any of the instruments you can find further information relating to the hours the market is open, the contract size and more. In the above list, there are many different types of Growth ETFs from different providers tracking different stock market indices. This includes the likes of the:
- iShares Russell 1000 Growth ETF (#IWF) which tracks the performance of a basket of companies with growth characteristics from the Russell 1000 stock market index. The metrics used to identity growth stocks are book to price, medium-term growth forecast and sales per share growth.
- Shares MSCI EAFE Growth ETF (#EFG) which tracks the performance of companies in Europe, Australia, Asia and the Far East whose earnings are expected to grow at an above-average rate relative to the market.
Below is the long-term, daily chart of the iShares MSCI EAFE Growth ETF (#EFG):
Source: Admiral Markets MetaTrader 5, #EFG, Daily - Data range: from 26 October 2018 to 20 July 2020. Please note: Past performance is not a reliable indicator of future results. Last five-year performance: 2019 = +25.19%, 2018 = -14.45%, 2017 = +26.77%, 2016 = -5.14%, 2015 = +2.02%, 2014 = -7.93%).
While the recovery in the iShares MSCI EAFE Growth ETF from the 2020 coronavirus crash has not been as strong as the iShares S&P Growth ETF, it has certainly outperformed individual European stock market indices. In essence, this is what growth investing is all about - finding a selection of instruments that have the ability to outperform the overall market.
Many new investors believe growth investing is about finding something that is cheap and could go up in value. However, this is not the case and it is important to differentiate between growth investing vs value investing.
Value vs growth investing
Growth vs value investing often gets mixed up by new investors. Many believe they are the same, however, they are both very different. Growth investors are attracted to companies and stocks that are expected to grow at a faster pace than the rest. Value investors try to find stock prices which do not reflect their fundamental worth and are trading at a discount, or bargain.
Growth stocks are typically more expensive as the expectations from investors are quite high, whereas value stocks are priced relatively cheap. Each investing style is measured by its own characteristics, as highlighted from iShares below:
Fortunately, there is also a wide variety of different Value ETFs for investors to choose from. Finding the right style is essential as the mindset required between value vs growth investing is very different. In growth investing strategy, investors will be looking for their capital to grow much faster than in a value investing strategy.
Some fund managers still do to try to employ both styles in one. This strategy is known as Growth at a Reasonable Price, or GARP investing. This is where investors would focus on growth companies but filtering potential opportunities with some traditional value indicators as well.
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For example, below shows all the active events for the iShares S&P Growth ETF on 20 July 2020:
A screenshot showing an example of searching 'iShares S&P Growth ETF' in the Technical Insight™ indicator from the MetaTrader 5 Supreme Edition platform provided by Admiral Markets.
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Why start growth investing with Admiral Markets?
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About Admiral Markets
Admiral Markets is a multi-award winning, globally regulated Forex and CFD broker, offering trading on over 8,000 financial instruments via the world's most popular trading platforms: MetaTrader 4 and MetaTrader 5. Start trading today!
This material does not contain and should not be construed as containing investment advice, investment recommendations, an offer of or recommendation for any transactions in financial instruments. Please note that such trading analysis is not a reliable indicator for any current or future performance, as circumstances may change over time. Before making any investment decisions, you should seek advice from independent financial advisors to ensure you understand the risks.