How to Invest in the Best Growth Stocks: 5 Rules for Successful Growth Investing
By Timothy Lutts
A Cabot Wealth Advisory Special Report
I was talking with a longtime subscriber last week—a professional money manager—when the topic of education came up. He told me, “The thing I‘ve always liked about Cabot is that you educate your readers. You don’t just tell them what to buy and sell, you explain why.”
Today, recognizing the value of that thought, I’m going back to the basics, bringing you five rules for successful growth investing in the best growth stocks, complete with the all-important reasons why.
1. Use market timing to guide your investing. In bull markets, we say, “A rising tide floats all boats.” In bear markets, we say, “It’s hard to swim against the outgoing tide,” ... as so many investors have learned in recent months. So learn to recognize the major trend of the market, and learn to respect the power of that trend. Today the market’s correction appears to be finished, and a new uptrend is trying to establish itself.
2. Do your very best to ignore the economic news. The fact is, the stock market is always looking six to nine months ahead, so today’s news means nothing. Sure, the ongoing drama in Europe makes for great cocktail chatter, but it won’t help you make money. In fact, if you’re always focused on investing according to the hottest news, you’ll find you’re always one step behind the professionals. You’re at a disadvantage. To succeed as an investor, you’ve got to find an area where you have an advantage, and that’s on the road less traveled, namely younger, less well-known companies.
3. Invest in fast-growing companies. Fast growth can overcome a huge number of smaller deficiencies, like inexperienced management, competition, weak patent positions, and more. And fast growth eventually attracts the attention of institutional investors, who are very useful in both providing downside support and in pushing prices higher as they buy their way in. The best growth stocks are in small companies growing at triple-digit rates—100% or better—through organic growth, not acquisition. Three exciting companies that fit the bill today are LinkedIn (LNKD), Westport Innovations (WPRT) and Zillow (Z).
You may be familiar with LinkedIn and Zillow, as they are consumer-oriented internet businesses. Both came public last year, and because they’re not as wildly popular as Facebook, there are more potential buyers than sellers. Westport Innovations makes and converts automobile and truck engines to run on natural gas, and business is booming as natural gas prices fall.
4. Average up in your winners. As the song says, “Accentuate the positive.” So when you've invested in a small, fast-growing company, and the market gives you a profit, don’t take the profit. Wait for a normal pullback, and then buy some more of that top growth stock!
5. Cut losses short. As the song says, “Eliminate the negative.” If a stock you bought has declined, it has not done what you hired it to do. Thus, you should consider letting it go. Analyze the chart carefully, and tolerate no losses exceeding your own personal pre-set limits. Our absolute maximum loss limit is 20% in bull markets and 15% in bear markets, but we do our best to cut them even shorter. The very worst thing you can do is let a loss get bigger and bigger.
Perhaps the biggest rule of all, which has existed for centuries, is about diversification. “Never put all your eggs in one basket.” This applies even to the best growth stocks. Of course, everybody knows this, so I don't even include it my five growth investing rules. But sometimes ... people forget.
Yours in the pursuit of wisdom and wealth,
For Cabot Wealth Advisory
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