What is a Growth Stock?
Let’s see the parameters using which one can identify or at least shortlist what growth stocks are: –
- High PE Ratio
- Growth stocks trade at high PE ratios
- It means people are ready to pay higher prices for lesser earnings
- PE ratio is nothing but what price an investor is paying for 1 rupee of earning. For example, if a stock has a PE ratio of 80, it mean that for earning 1 rupee the investor is willing to pay 80 rupees
- High Price-to-Book (P/B) Ratio
- P/B ratio compares the current market price of the share of a company with its book value
- The PB ratio of growth values are on the higher side
- Normally when the PB ratio is more than 5 or 6, it is called as a high PB ratio
- Low Dividend Yield
- The growth stocks have low dividend yield even with high profits is because the management of the company thinks that rather than distributing the dividend from the net profits, that is from the surplus money the company has. They think that this money can be used to grow the business to higher levels.
- If the investor wants to take out some profits, they will have to sell those stocks as the dividend yield of these stocks are on the lower sides
These are the basic parameters which will tell you what/which are growth stocks.
Examples to Understand & Identify Growth Stocks
- Avenue Supermarts (DMart)
- PE Ratio –29
- PB Ratio –8
- Dividend Yield – 0% (they feel that they have a lot of growth potential with them as they are currently just in the western region of the country. Thus, for expansion in other regions they will have to retain the net profits, and that is why they are not interested in giving dividends)
- Page Industries (Jockey)
- PE Ratio –60
- PB Ratio –55
- Dividend Yield –45% (It means if the stock is trading at close to 30,000 level, then they are not even giving Rs. 150 as dividend. This also means that the company is very confident about their growth)
- Amazon (A US market stock, but the company is very familiar in India)
- PE Ratio – 102 (Even though the US markets are more developed, Amazon has such a PE ratio)
- PB Ratio –82
- Dividend Yield – 0% (Amazon too believes in using the money for growth and expansion rather than giving out dividends)
- Netflix (A US market stock)
- PE Ratio –79
- PB Ratio –91
- Dividend Yield – 0% (Here too, they want to retain the profits and grow the business)
Therefore, because of the company’s moto to not give out dividends and instead focus on growth, the stocks of these companies are called as growth stocks.