Financial Planning Perspectives
Growth Investing -- A Core Part of Your Long-Term Strategy
Long-term investment goals are as unique as the people who set them. Some investors set their sights on building a dream home; others may be looking to launch a new business. Still others seek the more traditional long-term goals of a comfortable retirement or funding a child's education.
No matter how they differ, all long-term investment goals have one thing in common - the need to accumulate wealth. One way to pursue long-term goals is to build a portfolio around a core of growth-oriented stocks.1
The Potential Power of Growth
Growth investing is a strategy in which an investor selects stocks based on strong track records of earnings growth. These stocks generally don't pay high dividends, but instead reinvest their earnings for the future. Such companies typically are well-established, serve growing markets, lead their industries with consistent market share gains and technological innovations, and produce strong financial returns.
Growth stocks are generally differentiated from other stocks, such as value stocks, based on their higher price-to-earnings (P/E) ratios. These measurements reflect how much investors may be willing to pay for a stake in a company's present and future success. The higher the ratio, the more investors are likely to spend.
Although growth stocks tend to be more expensive, history suggests that they have often rewarded those willing to pay the price. While past performance cannot guarantee future results, for the 30-year period ended December 31, 2014, growth stocks returned an average of 11.37% per year.2
Manage Risk Intelligently
All stocks involve a certain level of risk. That's one reason why growth stocks may be more appropriate for investors with long-term time horizons. The longer you hold on to these investments, the lower the risk may be that short-term losses will significantly affect your bottom line.
Another way to manage risk is to diversify your portfolio with other types of investments.3 For instance, consider dividing your stock allocation among large-cap, midcap, and/or small-cap stocks.4 Then think about adding bonds and cash instruments as well.5 An investment mix that uses all three traditional asset classes may help you pursue desired returns while maintaining a comfortable level of volatility.
A Sound Strategy for a Variety of Needs
A well-crafted investment strategy built around a core group of growth stocks may help get you well on your way toward your long-term goals - whatever they may be.
1Investing in stocks involves risks, including loss of principal. Because the prices of most growth stocks are based on future expectations, these stocks tend to be more sensitive than value stocks to bad economic news and negative earnings surprises. While the prices of any type of stock may rise and fall rapidly, growth stocks in particular may underperform during periods when the market favors value stocks.
2Wealth Management Systems Inc. For the 30-year period ended December 31, 2014. Growth stocks represented by a composite of the S&P 500/BARRA Growth and Value indexes and the S&P/Citi Growth and Value indexes.
3There is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Diversification does not ensure against market risk.
4Securities of smaller companies may be more volatile than those of larger companies. The illiquidity of the small-cap market may adversely affect the value of these investments. Midcap companies often have greater price volatility, lower trading volume, and less liquidity than larger, more established companies. For these and other reasons, investments in small-cap and midcap companies carry more risk than investments in large-cap companies.
5Bonds are subject to market and interest rate risk if sold prior to maturity. Bond values will decline as interest rates rise and are subject to availability and change in price. CDs are FDIC insured and offer a fixed rate of return if held to maturity.
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© 2015 Wealth Management Systems Inc. All rights reserved.
— This column is produced by the Financial
Planning Association, the membership organization for the financial planning
community, and is provided by Nancy Blunck, MS, CFP, a local member in good
standing of the FPA.