The stock market offers investors a variety of ways to profit. One is to invest in the growth stocks, those of businesses whose profits (or revenues) are anticipated to grow faster.
What is a growth stock?
Growth stocks are a stock that is predicted to grow their profits or revenues faster than the typical company in its industry or the market as a whole. A growth stock grows faster than the average stock in the market and, as a result, generates earnings more quickly. Growth-oriented companies generally have sophisticated leadership teams focused on innovation and significant market potential.
Characteristics of Growth Stocks
1. High growth rate
As the name suggests, growth stocks have a much higher growth rate than the general market. It suggests that the stocks grow faster than the market’s average stock.
2. Low or zero dividends
Growth stocks tend to pay either low or zero dividends. Because they are expanding quickly, growth companies often prefer to reinvest their retained earnings into the business to increase their potential for generating revenues.
3. Competitive advantage
Growth companies exhibit much greater growth rates because they have a competitive advantage over other companies in the same industry. The competitive advantage provides growth companies with a unique selling proposition (USP) that allows them to sell and expand more effectively than other companies in the same industry.
Investors don’t get a lot of return on their investments in the short term since growth stocks either pay very little or no dividends. The long-term picture, however, is entirely different. After observing growth companies experience two-fold, three-fold, or multi-fold growth, investors can earn large profits through capital gains.
The Risks of Investing Growth Stocks
Growth stocks can be lucrative, but their prices can be highly volatile. The stock price rises when the investment world believes a company will outperform its competitors. This price increase may cause the company to appear overvalued, and if the company’s performance falls short of investor expectations, the share price is likely to fall quickly.
Furthermore, the fact that these stocks pay low or no dividends contributes to the risk. As a result, the investor only earns from the investment if the company does successfully in the long run. If the company fails to perform, the investor may face financial losses.
Should You Buy Growth Stocks?
That depends on you and your investment goals. Investing in growth stocks does not guarantee a profit in the stock market. Growth stocks may outperform the market now, but that doesn’t mean you should invest in them. Past success does not guarantee future performance, and picking specific stocks might be risky.
Many investors prefer to invest in index funds and exchange-traded funds, which combine hundreds or thousands of stocks into a single investment. Index funds, by definition, do not outperform the market; instead, they move with the stock market.
To read more about Islamic Finance related topics, please click here and visit our academy.
Feel free to sign up for our free stock screening services at musaffa.com.