What is Growth Investing?

Instructor: Michelle Reichartz

Michelle has lead multiple training initiatives and has a master's degree in Business Administration.

In this lesson, you will learn how the growth investing strategy works, how it differs from the value investing strategy, and the risk associated with it.

Rising Towards the Sun

Let's say you have three small flower plants in your backyard: a sunflower, daisy, and rosebush. You are excited to see how they look when at their full growth, but which one has the most growth potential? Which flower do you believe will be the tallest, the brightest, and the strongest? Each flower has its own potential, but which one is the most likely to succeed? Based on what you know about the flowers, you decide that the sunflower is the most likely to to be tall, bright, and strong.

It's this same evaluation and determination of future growth that is involved in the strategy known as growth investing.

Growth Investing Explained

Growth investing is the strategy that involves putting money in the stock of those companies that are believed to have above average growth in the future. It is not a review of the current status of the company, but rather of what they could become a month, a year, or a decade from now. In short, you're attempting to predict the future as a method for buying stocks.

However, potential is a difficult thing to determine. There is no magical formula that can tell you what to invest in and what to avoid. This is what makes the growth investing strategy such a risky decision, one that is not to be taken lightly.

It is for this reason that the growth investment strategy is often referred to as the opposing strategy to value investing. Where growth investing uses the future to determine what stock to buy, value investing uses a company's current performance to determine if they are undervalued. Both strategies attempt to buy something of great worth in the future, but they use two different venues to get there.

How to Find a Growth Investment

The most difficult part of the growth investment strategy is determining how to figure out future potential. Growth investors who do this professionally have their own formulas and methods, but none of them have been released publicly.

Luckily, the National Association of Investors Corporation, aka the NAIC, has put together a list of five factors to follow:

  • Strong historical earnings growth

The NAIC advises that picking a company with a history of earnings growth is essential. The rough guidelines require that the minimum growth in the previous five years should be 12% for a company under $400 million in size, 7% for a company between $400 million and $4 billion, and 5% for a company over the $4 billion size.

Although five years is the requirement by their advisement, a history of growth for the past 10 years is preferred. If a company has shown growth for 10 years, then it is highly likely to continue that growth for the next 10.

  • Strong forward-earnings growth

The NAIC requires that a company have a projected five-year growth rate of at least 10%. A rate of 15% or higher is their preferred ideal number. This type of project is completed by a company or a professional analyst.

Since these are projections, it is, at best, an estimate. It is essential that whenever working with an estimate, you do your due diligence to confirm the credibility of that company or analyst's knowledge in the industry and company they are projecting in.

  • Is management controlling costs and revenues?

This factor uses the pre-tax profit margin, which can be found on a company's financial statements. A company can experience an increase in sales and revenue, but unless they manage costs appropriately, that revenue will not turn into profit or growth.

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