Warren Buffett has a knack for outperforming the stock market with both income and growth stocks. While his portfolio hasn’t been ahead every year, his average annual return sits at around 20%. That’s basically double what the stock market has achieved. How did he do it?
Becoming a great stock picker requires a lot of experience, skill, and emotional discipline. But even someone just getting started on their investing journey can significantly amplify their odds of success by adopting some of Buffett’s strategies.
And given the state of many growth stocks today, I think it’s the perfect time to start following his advice to “be greedy when others are fearful”.
Are growth stocks making a comeback?
Investing for growth isn’t at the top of every investor’s priority list. After all, plenty of people are looking to protect their wealth at this time rather than expand it. However, for those seeking to build a bigger portfolio, growth stocks have been a terrific way to do it over the last decade.
Sadly, these types of shares also have the downside of being considerably more volatile in most cases. So it should come as no surprise they were the ones hit hardest by the 2022 stock market correction. And even Buffett’s portfolio got caught in the crossfire.
Many of these firms, especially in the technology sector, struggle to generate a reliable profit. And with rising interest rates drastically increasing the cost of external financing, a lot of young growth businesses have been struggling.
However, that’s not the case for all young firms. In fact, there are plenty already generating excess cash flow. And with investor concerns about inflation slowly subsiding, it seems interest in growth stocks is ticking back up again. So much so that the UK’s flagship growth index, the FTSE 250, is up by double-digits since last October.
Time to buy?
Historically, during a market recovery, growth stocks have outperformed. As such, it may seem logical to start buying every beaten-down growth business in the FTSE 250. However, in practice, things aren’t that simple.
While the category as a whole may have a bright future, that doesn’t mean every constituent will follow suit. Rising inflation and interest rates have significantly changed the economic landscape.
And for companies that have grown reliant on external financing over the last decade, moving forward will likely be tough. And this will create plenty of opportunities for competitors or start-ups to swoop in and steal market share.
Therefore, investors following Buffett’s advice to be ‘greedy’ still need to perform the necessary due diligence. Carefully examining a growth stock’s business model, financials, and strategy may reveal the strengths or weaknesses that other investors might well have overlooked.
