All You Need to Know About Growth Investing

Growth stocks are companies that are expanding their profits (or revenues) at a faster-than-average pace enabling their investors to earn big returns through capital appreciation .

Ever Wonder why people invest in growing companies that are sometimes NOT Profitable ? The biggest example of the past couple years is none other than TESLA (Ticker TSLA) .

TESLA was founded back in 2003 , Elon Musk first joined in 2004 as chairman and later as CEO. TESLA vehicle sales in the U.S. increased by 280% from 48,000 in 2017 to 182,400 in 2018, and globally were up by 138% from 2017. However, Tesla has never had a profitable year including 2019 .

I know , It’s Hard to believe but that’s actually how all companies start out . through rounds of fundraising , Selling stock on the Public exchange, and also Angel investors all companies start out this way.

So why are people buying TESLA Stock even though they are still not profitable ?! Doesn’t make sense does it ? why would people buy this stock when it has been super volatile from up at $379 then down to $176 in 1 year ?

The answer is Growth .

Companies that are actively growing and using its fundraising and revenue to continuously inject into the company in hopes of one day being profitable and generating significantly more revenue .

Companies like Facebook , Microsoft and Apple All went through this process and are now the giants of the economy and attract a certain type of investors as a result. People who invested in these growth stocks are after “Capital Appreciation” .

In this article I want to explore how to choose growth stocks. What to look for in earnings reports , news and vision , and the Company as a whole . It is a long article, but very rich in value on this specific topic and I assure you , you won’t regret reading till the end.

The Big Picture

One of the first things you can look for in growth companies is the overall trend of your surroundings . The world tends to move in a specific direction , slowly , but definitely towards a common destination.

Amazon was a company that saw a trend of online businesses and positioned itself first as a bookstore online , then expanded slowly to encompass the online behemoth it is today . Now malls are becoming obsolete and closing because online commerce (E-Commerce) is the way of the future .

Same thing for other online endeavors , Bitcoin and Blockchain is also a huge trend . I Don’t pretend to understand Bitcoin investing but Blockchain is a fascinating technology and every company that has tried to study and incorporate blockchain has seen great growth .

Another Example is 5G, Chipotle , Netflix and streaming, IRobot, and the list goes on …..

You notice a pattern ? These are Global trends with companies following suite and trying to either capitalize or improve on these trends . You don’t have to necessarily invest early in an industry changer , Sometimes all you need to do is ride an existing wave ( Like buying Disney stock when they first announced Disney+ ) .

Back to TESLA

TESLA in my opinion is an industry maker and global game changer . The Electric car industry was virtually non existent before TESLA . They came into the scene and worked on an idea until fruition and now they are the number one electric car maker .

But that isn’t why TESLA has so much potential .

It is because of what that success actually means . A full electric car doesn’t use any fossil fuels , and with the way climate change is, this single company has a chance to monopolize on a global threat they are the only ones to have a solution for .

Not only that , but they directly threaten an entire energy sector of oil in the world . Electric vehicles displacement of oil has risen 14X since 2011 . This is not nearly enough to cover the demand of oil but it is rapidly increasing every year .

Last , TESLA has also been a pioneer in its Battery Technology and has acquired the most prominent battery companies , these purchases have rapidly increased the efficiency in its battery life in its existing cars , but that’s not why it’s great . They are the ONLY manufacturer of these high efficiency batteries and so if anyone wants to attempt to make Electric cars , they would have to go through TESLA .

These bits of news are things that aren’t written in any specific report, but news accumulates slowly over time giving you a bigger picture of the vision a company is going towards.

My Personal Philosophy in investing

Some investors only look at the fundamentals and balance sheets when looking at investing and nothing else. Regardless of what a company does or how it does is irrelevant .

That is Absolutely not my style .

I am a very socially conscious investor and do not like to invest in industries that actively harm other Humans . Money is power in this day and age and where you deploy your money speaks volumes of a person’s character . I refuse to prop up unethical actions in the name of pure profit .

I am of the opinion that there literally thousands of companies to choose from , so my profits can be made elsewhere. Hence, I do not Invest in Tobacco , Arms and weapons , Gambling or predatory lending.

These types of choices are my own Personal choices and i Encourage you -The reader – To be conscientious too but it ultimately is your own choice .

To me this Principle is more important and worth losing a chance or two at these investments . In return , This is how as an investor I sleep well at night , even if I do not become the next Warren Buffet .

When Big Investors Move, You Should Too

Some growth companies don’t reach the public immediately via their own products . Other times you might want to catch a company early on to invest (Amazon is way to expensive today than it was 6 years ago).

A good way to know if a company is worth its mettle is if a Major investor buys a stake in it !

Big Money managers must report their holdings to the Securities and Exchange Committee (SEC) every 90 days and when they do, we have access to these purchases and can potentially learn the names of these companies to start our research .

One of my favorite investors to follow is Carl Icahn, and George Soros among others .

How To Find Great Growth companies

There are many tools to find specific stocks, these are called “Stock Screeners “ . Some are Free like Yahoo finance and Finviz. Others are paid services Like Bloomberg Terminal .

Personally, I built my own screeners on the TD Ameritrade Think or swim Platform. Like Finviz, you can input certain Criteria in the Screener and automatically scan thousands of different stocks on the NasdaQ , and get a short list of companies that match your exact criteria .

These are the Criteria I use :

Market cap Above $500 million
Positive P/E Ratio to show positive income ( Not necessarily profitable as explained later in the article)
Debt-to-equity ratio below %30 to make sure the company is not saddled with Debt.
Expected Growth of %15 or more .

After Plugging these criteria in the screener, you will get a shortlist from which you would use some of the criteria ahead in the article to further analyze the fundamentals and Balance sheet of a company from the SEC website to view the 10-K and 10-Q filings.

10-K and 10-Q are reports that are filed Quarterly and Annually, respectively, and are required by the SEC. These are the budget reports of companies and are public information for all to see.

Using all those together helps you make a better decision on what to choose.

Of course, there is always the chance you stumble onto a great growth company name without all this screening but nonetheless, you should do your due diligence and study the underlying fundamentals even if you do.

Legendary Leadership

Growing a company from 5 Billion to 50 billion to 500 billion requires an Exceptional leader with a vision and a great management team. Without it, growth won’t happen.

Growth investors who are looking for their next investment, want to choose companies that have a leadership team with a good track record and a reputation for being innovative and market makers.

Think of Steve Jobs, Bill Gates, Elon musk and Mark Zuckerberg as examples of great leaders.

While it may not be easy to spot the next innovator, investors have to do some research on the leadership team before investing any money in the stock. You want a person whom you can trust with your investment .

The last thing anyone wants is to get stuck with a company that’s following the pack instead of leading, or worse will be gone in six months to a year.

Lowering Operating costs

One of the main issues of a company is how much it cost to make the goods that they wish to sell and generate revenue.

At first this concept would probably be the main driving factor as to why a company is losing money. But overtime, if you see a company continuously lowering operating costs and finding more efficient ways of producing the same revenue that is a good sign of good management.

Automation is looked upon badly in society however when implemented in companies it is a sign of good and efficient use of resources.

Calculated indicators of strong growth

These are some of the actual numbers you need to study and calculate to judge whether a company has a strong outlook.

Strong Earnings per share (EPS) :This is reflected by watching the improved Year on year (Y.o.Y) growth of sales and revenues. When sales slow down that also reflects on a stock price negatively but might be a sign of volatility and a good opportunity to buy. This is the amount each share would get if a company paid out all of its profits to its shareholders. EPS is calculated by dividing the company’s total profit by the number of shares, this number is given to you via yahoo finance most of the time. EPS can tell you how companies in the same industry compare.
Price to earnings (P/E) ratio :This measures the relationship between the earnings of a company and its stock price. It’s calculated by dividing the current price per share of a company’s stock by the company’s earnings per share, again you do not need to calculate this most of the time.The P/E ratio can tell you whether a stock’s price is high, or low, compared to its earnings. Some investors consider a company with a high P/E to be overpriced. But sometimes a company with a high P/E today may offer higher returns, and a better P/E, in the future.
Price to earnings ratio to growth ratio (PEG) : This helps you understand the P/E ratio a little better. It’s calculated by dividing the P/E ratio by the company’s projected growth in earnings. Example – A stock with a P/E of 30 and projected earnings growth next year of 15% would have a PEG of 2 (30 divided by 15). A stock with a P/E of 30 but projected earnings growth of 30% will have PEG of 1 (30 divided by 30). The PEG can tell you whether a stock may or may not be a good value. The lower the number, the less you have to pay to get in on the company’s expected future earnings growth.
Price to book value ratio (P/B) This compares the value the market puts on a company with the value the company has stated in its financial books. It’s calculated by dividing the current price per share by the book value per share. The book value is the current equity of a company, as listed in the annual report. Most of the time, the lower the P/B is, the better. That’s because you’re paying less for more book value. If you’re looking for a well-priced stock with reasonable growth potential, you may want to use a low P/B as a tool to identify possible stock picks.
Dividend payout ratio (DPR) This measures what a company pays out to investors in dividends compared to what the stock is earning. It’s calculated by dividing the annual dividends per share by the EPS.The DPR can give you an idea of how well a company’s earnings support the dividend payments. More mature companies will typically have a higher DPR. They believe that paying more in dividends is the best use of their profits for the firm and its shareholders. Since growing companies are likely to have less or no earnings to pay out dividends, their DPR would tend to be low or zero. However, Companies like Apple pay out dividends and still have some growth , this will be explained later.
Dividend yield This measures the return on a dividend as a percentage of the stock price. It’s calculated by dividing the annual dividend per share by the price per share. The dividend yield can tell you how much cash flow you’re getting for your money, all other things being equal. In general the lower the yield , the more cash is going towards growth . These last two indicators are less for growth and more for value investing , but the fact they are available to you in a company means it has matured and growth will be slow.

The Risks of Investing in Growth Stocks

While investing in growth stocks can be great, there is a caveat that investors should be aware of. When Wall Street believes that a company is going to rapidly increase its profits, then it is usually awarded a very high valuation. That fact greatly increases the risk that the company’s stock could fall dramatically if it fails to meet analysts expectations during earnings reports. That’s one reason why investors should know the fundamentals of growth stocks and do their homework before diving in.

Hence, a risk that investors need to be OK with is that growth stocks are usually much more susceptible to wild price swings in turbulent markets than value stocks. The volatility can be unnerving at times, so if you’re the type of investor who can’t handle big price swings, then growth investing probably isn’t for you.

Growth Vs Value investing

I would like to tie this in with my article on Dividend investing so go ahead and check that out once your finished with this one to see what type of investing strategy you find yourself gravitating towards .

In Short , Value investing are companies that have achieved the main thrust of their growth and most likely won’t grow anymore . These companies tend to be well established lower risk companies that specify in a narrow sector or product .

Value stocks are attractive mainly for their Dividends ! these companies award the shareholders every month , quarter, or yearly , a dividend for owning a certain number of shares . Investors then either reinvest that into the same company using DRIP (Dividend reinvestment program) or take those dividends and invest them in other dividend paying stocks.

That is why Value investors don’t typically buy UNPROFITABLE companies. That is a key difference ! Why buy a High risk stock that doesn’t actively pay you ? Value companies need to have healthy balance sheets and these types of investors are more into slow growing profitable companies for preservation of wealth . Warren Buffett at this time is very much a value investor of our time .

That is not to say that you shouldn’t invest in growth stocks as i have explained throughout this article , but value investing gets the most benefit with huge initial capital investment . Not necessarily available to young or new investors .

Another difference about value investing is the indicators we use to find them . P/E Ratio is a big one for any value investor , preferably below the average P/E Ratio of the S&P 500 . If you manage to find an undervalued stock that pays a dividend you have a great stock pick !

Both Strategies are indeed wonderful but have separate mindsets and Rules . Both have paths to extreme wealth but some suggest that growth is a better choice to build wealth but value investing is to preserve wealth .

Can there be stocks that are great value and growth opportunities ?

Absolutely ! There are indeed Plenty. One company that comes to mind is Skyworks Solutions (SWKS) This company not only pays a dividend but has seen great growth in the past 5 years . Semiconductors have major role in 5G and these types of companies are well positioned for major growth in the future even though they aren’t moving anywhere now. Getting in early is key and understanding the future vision and current business model will keep you ahead of the curve.

How to minimize Risk

After all this homework this last step is the easiest but also very crucial when attempting to invest.

It is never wise to go all in in a stock ! No matter how much you believe in a company .

Growth stocks have implied volatility and the last thing you want to see is your $100,000 Investment get cut down to $50,000 and back up . That would cause emotional turmoil in the most seasoned investor .

The best way to approach investing in general is to not have more than %15 in one sector and not more than %10 of your entire portfolio in one Stock .

Diversifying among different companies in different sectors is a less risky way to approach investing as a general rule of thumb .

This Ensures , even if one whole sector of the economy gets hit, you will still have other investments to carry the load and balance things out . This will give you emotional strength to weather the storm and wait until you growth stock recovers and turns a profit.

A Fresh example, Apple in early 2019 gave a warning that doing business with China would be very tough in the near future , The whole Technology sector was hit and it crashed. Those particular companies that were doing heavy business in China like chips and semiconductors especially felt the pain .

What investment Vehicle should you use for Growth stocks

The vast majority of long-term goals are retirement-related, which means you should be investing in a tax-advantaged account. That’s a 401(k), if your employer offers one with matching dollars, or an IRA or a Roth IRA if your employer doesn’t. Unfortunately, some companies offer 401(K)’s that cannot be invested in individual stock , only mutual , index or ETF so consult your company’s benefits department to understand what you can and cannot do.

Having this type of immense growth in a tax advantaged account is lucrative. Especially, if you have a winning stock and got in very early. Personally , I have not achieved this, but i have seen some accounts with early investing in Shopify (SHOP) and Amazon (AMZN) grow to $500,000 from one stock .

The downside though, is not being able to withdraw any of the capital gains until retirement without paying a penalty.

If you have maxed out your taxed advantaged accounts or are not allowed to invest in individual stock, then you can invest using a self directed Brokerage account. The benefit being of course you can withdraw and sell stock whenever, Although, you may end up paying a %15 Capital gains tax in addition to normal income tax in some cases so do your own due diligence and calculations on what is more financially sensible.

Final thoughts

Whew ! this one was a doozy. However, I wrote this article exactly how i would want to be taught these knowledge pillars. I had to scour the web to learn all these bits and pieces over the years and I wanted to write an article to end all others.

I will constantly update this article with any new strategies I gather and knowledge I learn but please help yourself to other posts that cover a variety of other topics .

Thank you for reading !