The fundamental goal of growth investing is to buy a stock no matter what its price is and sell it for more. As you have probably noticed by now, and as the data show, growth investing is much more akin to gambling than investing. Why, then, do the majority of investors use prefer growth over value? The answer is the same reason many gamble; there is a chance you can make a lot of money in a short period of time.
Growth Investing With Example
Let me give you an example. Remember in the late 1990’s when everyone was so enthusiastic over all the dot-com companies sprouting up everywhere? Those who were swept up in that were reacting to the mass hysteria that occurred and it led to the 2000-2002 crash that left many investors without their shirts. Let’s revisit some of the companies that growth investors invested in during the late 1990’s, as well as how bad things got in the early 2000’s.
Amazon (NasdaqGS: AMZN) shares, at their peak in 1999 were worth roughly $100 per share. In September of 2001, they were trading for roughly $6 per share. This represents a 94% drop in the price of the stock. If you had invested $10,000 when the stock was near its peak, as many growth investors did, you would have had only $600 remaining.
CMGI (NasdaqGS: CMGI) shares, at their peak in March 2000 were worth nearly $150 per share. In August of 2002, those same shares were worth a mere $0.31 per share. This is nearly a 100% loss of value. If you had invested $10,000 in March of 2000, you would have had a few cents leftover by August 2002.
Cisco (NasdaqGS: CSCO) shares, at their peak in March 2000 were worth $82 per share. In September of 2002, they were worth around $10 per share. They’ve gained some ground since then and are trading at around $30 per share. You’d still be down around 64% of your original investment.
The list goes on and on, but I think you get the picture. These examples represent an accurate, albeit exaggerated view of the issues involved with growth investing. When an investor decides to invest in a stock without determining the true value of the company, he or she is often in for a nasty surprise.
Growth investors fall victim to group-think and herd mentality often. Their strategy is fundamentally flawed in that the value of the company relative to the stock price is neglected. The dot-com crash of the early 2000’s caused a lot of investors, both individual and professional, to lose tremendous amounts of money.
Many mutual fund managers and other “experts” found that the funds they had been selling to average investors were now worth nearly nothing. Even the popular investment personality Jim Cramer was caught with his hand in the cookie jar. Several of his investment funds lost everything. It takes an extremely unique, strong, and independent mind to resist group-think when investing.
Below, you will find a list of both the positive and negative aspects of growth investing.
Growth Investing And It’s Pros:
- Potential for incredible returns in a short period of time
Growth Investing And It’s Cons:
- Hot stock tips, rumors, hype, and market hysteria are not reliable sources of information to act upon
- Failure to relate the stock price to the company value leads to purchasing overvalued stocks
- Safety net is low or non-existent
- Market downturns hit growth stocks far harder than value stocks
- Potential for total loss
Those who choose the growth approach consistently under perform the market. In the last 20 years, the S&P 500 has obtained compound annual returns of 13% per year. Also in the last 20 years, small-capitalization companies (smaller than 2 billion dollars) that were considered growth obtained compound annual returns of 8.8%, worse than all other types and over 40% less that of value investment returns of 15%.
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As investments are subject to market risks and price fluctuation risk, there is no assurance or guarantee that the investment objectives shall be achieved. Past performance of securities/instruments is not indicative of their future performance. This post is only for Educational purpose.