Growth Funds: Investing Essentials

Let's face it: Investing in dividend-paying income stocks isn't the most exciting way for young investors to see their portfolios grow. Although study after study extolls the benefits of such an approach, some people like a bit of excitement in their retirement plan.

That's where growth funds come in. And far from being unreliable and money-losing compared to dividend payers, growth funds can help supercharge your returns and shorten the length of time between now and your eventual retirement date.

That is, of course, if you know how to select growth funds that meet your needs.

Growth funds can help you build your retirement portfolio. Source: Images Money via Flickr.

What are growth funds?

There are lots of definitions for "growth funds," but in the broadest sense, any growth fund usually has the following characteristics:

• An investment in stocks, as opposed to bonds or CDs.
• A goal of accumulating returns via stock price appreciation instead of dividend income.
• Investment in companies that are growing both earnings and revenue at a rate well above the broader market's average.
• Volatility that exaggerates the market's moves -- showing bigger gains during boom times and greater losses during bust times.

What is the history of growth funds?

The actual birth date of mutual funds in America is a little hazy, but it was in 1928 that the Wellington Fund launched funds with exposure to both stocks and bonds.

The growth of mutual funds was slow following the Great Depression, and it wasn't until the 1960s that mutual funds focused specifically on growth began to surface. Following the stock market's 1,400% surge between 1980 and 2000, growth funds became a popular investment tool for everyday investors.

According to Kiplinger's, the following three large-cap growth funds were the most successful over the past 20 years.

Source: Kiplinger's. Data current as of July 31, 2014.

It should be noted, however, that these represent the cream of the crop; not every growth fund has performed this well. And many funds didn't even last that full 20 years and therefore aren't considered.

How many growth funds are there?

In 2013, U.S. News & World Report estimated that there were 7,238 mutual funds in existence.

Focusing specifically on growth, the Investment Company Institute said that by the end of 2013, there were 1,329 different funds focused on "capital appreciation." A whopping $1.725 trillion was invested in those funds -- up 125% from just 2002.

The most popular of these are the growth-focused exchange-traded funds (ETFs) offered by iShares. Investors can choose from a number of different types of growth ETFs, including ones that track the S&P 500, the Russell 1000, and the Russell 2000.

These funds have ultra-low fees, usually with an expense ratio below 0.3%, which helps explain their popularity.

Why invest in growth funds?

Growth funds play an important role in any well-balanced portfolio. They invest in companies that are shaping the future of our society -- and turning a solid profit in the process. That includes names like Amazon.com (AMZN 1.49%), Facebook (META 0.14%), and Apple (AAPL 0.51%).

While income funds that focus on dividends will provide stability through both boom and bust cycles, investors with a long-term investing horizon can count on growth funds to provide the kind of kick that helps you reach your retirement goals.

If you're not investing in a growth ETF and you decide to go the mutual fund route, the two most important factors to consider are fees and management. You should shoot for an expense ratio that's lower than 1% -- and the lower the better. And it's important to investigate the team that's deciding where to invest your money. Though a certain fund may have been around forever, its leader may be in his or her first year on the job. You want someone who knows what they're doing and has a proven track record.