What is a Growth Stock
A growth stock is a share in a company that is anticipated to grow at a rate significantly above the average for the market. These stocks generally do not pay dividends, as the companies usually want to reinvest any earnings in order to accelerate growth in the short term. Investors then earn money through capital gains when they eventually sell their shares.
Investment in growth stocks can be risky. Because of the lack of dividends, the only opportunity an investor has to earn money on their investment is when they eventually sell their shares. If the company does not do well, investors take a loss on the stock when it's time to sell.
Today, growth stocks compose a range of technology, biotech and some consumer discretionary companies.
Explaining Growth Stock
BREAKING DOWN Growth Stock
Growth stocks tend to share a few common traits. For example, growth companies tend to have unique product lines. They may hold patents or access to technologies that put them ahead of others in their industry. In order to stay ahead of competitors, they reinvest profits to develop even newer technologies and patents as a way to ensure longer term growth.
Because of their innovation, they often have a very loyal customer base or a significant amount of market share in their industry. For example, an app development company that is the first to provide a new service may be a growth stock, because it gains market share by being the only company providing a new service. If other app companies enter the market with their own versions of the service, the company that manages to attract and hold the largest number of users may become a growth stock.
Many small-cap stocks are considered growth stocks. However, some larger companies also issue growth stocks.
Growth Stocks vs. Value Stocks
Growth stocks differ from value stocks. Investors expect growth stocks to earn substantial capital gains. This expectations can result in these stocks being overvalued. Value stocks on the other hand, often are underrated or ignored by the market. They may eventually gain value, but investors also attempt to profit from the dividends they typically pay.
Many investors try to include both growth and value stocks in their for diversification.
Some value stocks are underpriced due to poor earnings reports or negative media attention. However, they often still have strong dividend payout histories. A value stock with a strong dividend track record can provide reliable income to an investor. Many value stocks are older companies that can be counted on to stay in business, even if they aren’t particularly innovative or poised to grow.