What Are Growth Stocks?
Growth stocks are issued by companies demonstrating a high potential for development. Purchasing shares of such companies can lead to massive wealth accumulation of investors through capital appreciation. However, growth stocks in India can be a risky investment venture, due to the developing nature of an issuing company. These stocks are characterized by companies having massive potential for growth and expansion in the future, with strong foundations, solid business development plans, and competent management to achieve stipulated targets. Growth stocks typically exhibit high price-to-earnings ratios and are ideal for risk-prone individuals looking to gain massive returns on their total investment amount.
Key Features of Growth Stocks
Purchasing a growth stock is ideal for risk-prone individuals looking to gain massive returns on their total investment amount. Investors can easily identify the best growth stocks and their issuing companies by considering the following features:
High P/E Ratio
Issued growth stocks by these companies have a high price to earnings (P/E) ratio, indicating high returns on total investment. A preliminary requisite of best growth stocks in India is that they tend to have a ratio higher than or equal to 1.
High PEG Ratio
The main advantage of PEG ratio over P/E ratio is that it takes into account the yearly rise in the total earnings per share of a business. A high PEG ratio indicates exceptional performance demonstrated by a business.
Strong Return on Equity
Companies raising capital through growth stocks in India generally have a record return on total equity of 15% or higher annually. This can be demonstrated through the return on equity (RoE) value published annually.
High Growth Potential
Growth stocks can only be issued by companies having massive potential for growth and expansion in the future. This can only be achieved if a company has a strong foundation, with a solid business development plan and competent management.
Market Recognition
A high price to earnings ratio indicates people's recognition of the total potential of a company, expecting it to grow at manifold rates in the future. Companies having a high potential for development are identified in the market.
Competent Management
Growth companies require competent management to achieve stipulated targets. Strong leadership and strategic planning are essential for realizing the growth potential and delivering value to shareholders.
Understanding P/E and PEG Ratios
Price-to-earnings (P/E) ratio and price-earnings-to-growth (PEG) ratio are crucial metrics for identifying growth stocks. Understanding these ratios helps investors make informed decisions.
| Ratio | Formula | Interpretation | Growth Stock Criteria |
|---|---|---|---|
| P/E Ratio | Market value per share / Earnings per share | Indicates people's recognition of company potential, expecting future growth | Higher than or equal to 1 |
| PEG Ratio | Market value of unit shares / Earnings per share growth rate | Takes into account yearly rise in earnings per share, better analysis tool | High PEG ratio indicates exceptional performance |
Why Should You Invest in Growth Stocks?
Investment in best growth stocks is undertaken to ensure wealth accumulation through large scale capital gains. Such companies exhibit a higher expansion rate than the underlying industry it is operating in, thereby ensuring larger revenue generated.
Massive Wealth Accumulation
Growth stocks offer potential for massive wealth accumulation through large-scale capital gains. Companies exhibit higher expansion rates than underlying industries, ensuring larger revenue generation and substantial returns for investors.
Tax Benefits
Profits through investment in growth stocks can only be realised in the long term. Any capital gains earned in this tenure is subjected to long term capital gains tax (LTCG), which is relatively lower than short term taxation policy. Also, a provision for indexation is present, reducing the tax burden of individuals even further.
Inflation-Beating Returns
Returns on best growth stocks are considerably bigger than the prevailing inflation rate in an economy, thereby allowing investors to generate real income on total investments. The purchasing power of individuals rises in the long run, effectively increasing their standard of living.
Higher Expansion Rate
Growth companies exhibit a higher expansion rate than the underlying industry they operate in, ensuring larger revenue generation. This aggressive growth strategy can lead to substantial capital appreciation for investors who hold these stocks over the long term.
Risks Associated with Growth Stocks
Growth stocks are characterized as a risky investment venture. Understanding these risks is essential for making informed investment decisions.
High Volatility
Growth stocks are generally issued by companies in its developing stage and therefore are highly susceptible in nature. They are heavily influenced by any market fluctuations due to their volatility. Even slight instability in price will lead to huge losses.
No Dividend Payments
Such companies tend to forgo on dividend payments for reinvestment for expansion purposes, which is a major disadvantage to investors. In case a business churns out losses, investors stand to lose out on total investment undertaken, as no dividend payments are realised during the lock-in period.
Economic Condition Dependency
The underlying performance of growth stocks can also be a result of the persistent economic condition in a country. In case a financial bubble is witnessed, any company functioning in that sector tends to over-perform beyond their potential. Such growth can be misleading, as it is based on an economic abnormality.
Comprehensive Analysis Required
Investment in growth shares in India requires a comprehensive analysis of both chosen companies and prevailing socio-economic conditions for adequate generation of profits. This requires extensive research and understanding of market dynamics.
Alternative Investment Option
Value Stocks
As opposed to growth stocks, value shares are issued by companies currently undervalued in the market. These shares have a lower price to earnings and price to book ratio, proving to be a profitable investment venture for individuals.
Dual Benefits
Investors can gain through both dividend payments and capital appreciation from value stocks, providing regular income along with growth potential.
Lower Risk
Since value stocks are generally issued by companies having a considerable market capitalisation value, chances of undertaking a faulty investment venture are low.
Final Thoughts
Growth stocks offer the potential for massive wealth accumulation through capital appreciation, making them attractive for risk-prone investors seeking substantial returns. However, they come with significant risks including high volatility, no dividend payments, and dependency on economic conditions. Investment in best growth stocks should be undertaken depending upon market conditions and requires comprehensive analysis of both chosen companies and prevailing socio-economic conditions. While growth stocks can yield exceptional returns during market upswings, they can also lead to substantial losses during downturns. Investors should carefully evaluate their risk tolerance and consider alternative options like value stocks, which offer both dividend payments and capital appreciation with lower risk. Proper research, understanding of P/E and PEG ratios, and analysis of return on equity are essential for successful growth stock investing.