Retirement planning requires you to find investments that will grow to let you build up a pool of savings for when you stop working. Growth stocks that will be around for the long term are a great way to reach that goal, but you have to be smart about which growth stocks to buy right now.
Key characteristics to build retirement wealth
Several key characteristics are important in choosing growth stocks. First, the stock’s returns should outpace the market for the next few decades. To do that, avoiding mature, stable, low-growth companies that reliably kick off modest returns without much volatility greatly reduces the candidate list. To be sure, those sorts of stocks have a role in most portfolios, especially those that are optimized to limit risk, but they drag down long-term growth potential. If you have time to ride out one or two cyclical bear markets before retirement, you want to prioritize growth rather than stability.
The best companies also have competitive moats that should safeguard their growth prospects beyond the medium term. Your investment narrative has to be valid for multiple decades, not just a few years over the next market cycle. Diversified B2B companies with respected products and services in growth industries are good candidates. Consumers are notoriously fickle; Blackberry (NYSE:BB), MySpace, and Yahoo! were all high-growth consumer tech giants that lost dominant market positions in a matter of years due to low switching costs for customers and short product replacement cycles.
I don’t care too much about valuation when assessing growth companies, provided it’s not absurdly high. Most intrinsic or relative valuation methods rely on some assumptions about maturity and operational stability, and they aren’t great for assessing the value of a company several years in the future after expansion. However, be careful that there’s not too much success already assumed in the price — there will likely be better opportunities to buy those stocks in that case.
Amazon has two major business lines in e-commerce and Amazon Web Services (AWS), and it dominates both of those markets. In AWS, the company has shown the willingness to enter seemingly unrelated markets and the competency to lead them, and it’s likely to keep doing similar things down the road. E-commerce and cloud computing are both high-growth categories that should continue expanding rapidly for the foreseeable future, and Amazon has advantages from scale to maintain its position in each. Furthermore, AWS is an important tool for many emerging growth companies, which will support Amazon‘s growth even if competition in e-commerce ramps up. Paying 58x forward earnings to own whatever Amazon could become in 20 years isn’t too much in my view.
Arista Networks (NYSE:ANET) produces hardware and software for data centers, and it also offers products for enterprise networking, routing, and security. At the heart of Arista’s story is its fierce competition with a larger incumbent in a growth industry. Arista has been able to take away market share from Cisco in data centers by offering more flexible solutions. Cisco relies heavily on proprietary hardware, whereas Arista has prioritized software. The company’s operating system runs on all of its products, thereby reducing cost and complexity as data centers grow and add different types of data center switches over time.
Arista is likely to experience a slowing revenue growth rate as it achieves a larger scale, but it is still a candidate to experience double-digit annual expansion due to data center proliferation and replacement of obsolete hardware. Competition is a risk, but Arista has delivered success with a differentiated product in a growth market.
NVIDIA (NASDAQ:(NVDA)) produces graphics processing units (GPU) that are in conjunction with other chips in applications such as gaming, AI, cloud computing, and 5G data centers. Automation and remote collaboration are stimulating the growth of those applications outside of the tech sector as well, with manufacturing and healthcare increasingly adopting tech solutions. As the GPU market share leader, NVIDIA is in a prime position to benefit.
NVIDIA is a leading supplier of components that are being used in several of the most promising growth categories for the coming decades, so the catalysts driving those emerging technologies will trickle down to NVIDIA’s core business as well. On top of that, NVIDIA is entering other attractive categories, such as chip design licensing with its pending acquisition of ARM Holdings. Leadership in key categories, sustained high growth, and exposure to medium and long-term growth trends are all fantastic signs for shareholders, and the stock can be acquired today at a modest valuation.