Building the necessary funds for retirement is often the result of aggressive saving and smart investing. Yet every investment carries risk, and it’s impossible for any investor to predict what the stock market will do in the years to come. Some investments, however, may help savers do a better job than others at accumulating the desired nest egg.
While every investor would love to buy into the next hot company just as it’s about to take off, accurately identifying those individual companies can be difficult—even for the most experienced stock picker. That’s where a growth stock mutual fund can play a role.
What is a growth stock mutual fund?
A mutual fund is an investment vehicle that allows someone to buy into a bundle of different stocks, bonds, or other securities with a single purchase. By buying shares of a mutual fund, the investor is acquiring a fractional share of each of the securities included in the fund.
Ideally, over time, the securities in a mutual fund will increase in value, with a rising share price and in some cases by paying dividends. Dividends can be a source of passive income for investors, while long-term growth in value will yield profits when the investor sells the fund’s shares.
A growth stock mutual fund focuses primarily on growth stocks—company shares that are expected to grow at an above-average pace compared to others in their industry.
Often, these growth stock companies are in booming industries, such as technology. They may also be younger companies that have a novel product or service. Two such examples in the last two decades have been Amazon, which climbed from $177 per share in early 2012 to more than $3,680 in mid-2021, and Facebook (now called Meta), which went public in 2012 at $38 per share and reached more than $382 in late 2021.
Mutual funds that hold shares of companies like these are designed to produce above-average appreciation for investors. However, growth funds don’t traditionally provide much, if any, dividend income for investors.
Types of growth stocks in a mutual fund
There are many different types of growth stocks that can be bundled together to create a mutual fund. Each of these characteristics can factor into how the growth stock mutual fund performs, and what the investor can expect from their fund shares.
Growth stock mutual funds can be categorized based on:
- Sector. Some funds concentrate on a specific industry such as energy, technology, or health care.
- Size or market capitalization. Funds can contain the shares of large cap or small cap companies, based on their total market value or capitalization.
- Investment strategy. Many funds are actively managed by an investment professional who personally selects the stocks in the fund, while others are passively managed index funds that track the performance of an underlying stock market index.
What to consider when looking at growth stock funds
Rather than trying to make individual common stock selections, investors can potentially boost their chances of portfolio growth by buying shares of growth stock funds. But there are a few things to consider along the way.
- The state of the economy. In a strong economy, growth stock mutual funds have a tendency to appreciate at a rate that surpasses the stock market as a whole. For this reason, they are a favorite among investors looking for solid annual returns and enhanced share growth during economic boom times.
- Volatility. In the same way that growth stocks outperform when economic times are good, they also tend to underperform when the economy slows. Because of their volatility, growth stock mutual funds may be better suited for long-term investors who can weather economic and market ups and downs.
- Lack of dividends. Since these companies are aimed at amplifying growth in a short period of time, they generally funnel any profits back into expanding the business rather than paying out dividends. For this reason, growth stock mutual funds tend not to generate passive income.
- Fees. Because growth stock mutual funds are usually actively managed, an investment manager will choose which stocks to buy and sell based on performance and profit expectations. This active management comes at a cost in the form of higher expense ratios—an annual fee based on the value of the assets in the fund—than passively managed funds that track an index.
What are some alternatives to growth stock mutual funds?
Mutual funds that focus on growth stocks can be beneficial for investors seeking above-average gains over the long term. However, investors with different goals have a number of alternatives to consider, including:
- Value stock mutual funds. These are structured much like growth stock mutual funds, except that value stock mutual funds invest in companies that are believed to be underpriced relative to their intrinsic value.
- Individual company stocks. Rather than purchasing a mutual fund that includes many different company stocks, investors can choose to simply buy shares of a specific company. While this can result in higher returns, depending on performance, it also potentially means higher risk.
- Exchange-traded funds (ETFs). ETFs behave similarly to mutual funds, except that they can be bought or sold throughout the trading day, rather than just at the end of the day like mutual funds. Most of them are passively managed and track a specific stock index. For this reason, they often have lower fees than many mutual funds.
The bottom line
For many investors, diversification is a proven way to generate growth and limit risk. Mutual fund investments are one option for achieving this, allowing investors to buy fractional shares of many different securities at once.
A growth stock mutual fund invests primarily in high-growth stocks, or shares of companies that are expected to outpace the growth of their industry or the stock market as a whole, as represented by a benchmark like the S&P 500. While they don’t typically pay out dividends and can lag during an economic slowdown, these funds tend to outperform when the economy is expanding, helping investors accumulate wealth over the long term.