Can you stomach a growth portfolio?

Small-cap growth stocks are far more volatile than anything that's in the S&P 500 index, but it's worth your while to strengthen your stomach. Why? Well, don't you want to be like the man who bought Motorola when it was a tiny radio manufacturer back in 1955 and never sold? He multiplied his money many, many times over, and that one experience -- and others like it -- helped him become one of the best investors of all time.

But you didn't need to be investing in 1955 to profit from Motorola's amazing growth. If you had bought the stock as late as 1980 and held, even through the company's turbulent recent years, the investment would still have turned $10,000 into $112,235.

Though a 9% annual return isn't fantastic, Motorola has been a mature company for some time now. Still, those types of returns -- particularly early on -- are precisely why you should not only stomach growth stocks but also make them a part of your portfolio today.

The growth king
The Motorola man I mentioned is the famous Philip Fisher, and in 1958 he wrote Common Stocks and Uncommon Profits -- a timeless book for all investors. His greatest contribution to growth investing may be his 15 Points. Though they won't shield you from short-term volatility, these points will help you achieve incredible long-term returns.

Here's the short-short version:

  1. Great growth stocks must take advantage of a substantial market opportunity to profit. That means they will be both "fortunate and able." Of course, being fortunate and able requires many things, including an excellent industry position, competitive advantages, prudent uses of discretionary dollars, efficient models, and superior sales forces.
  2. Great growth stocks must have a balanced and transparent management team. A potential investor must be able to look at a company's leadership and believe that it has integrity, an ability to handle distress, and an insightful vision for the future.
  3. Great growth stocks must have outstanding accounting and disclosure policies. Anything less than excellence is unacceptable.

How do these qualities translate to significant shareholder return? Examine Fisher's investment in steelmaker Nucor (NYSE: NUE) in the mid-1970s. Nucor was a growth-mover at the time, and it went from a relative pipsqueak to the second-largest American steel manufacturer by the time Fisher sold it.

Nucor embodied some of the very basic principles that Fisher espoused. For example, when many steelmakers were concentrating on volume and turnout, Nucor focused on implementing new technologies into its production methods -- making each of its plants smaller, more efficient, and most important, more profitable. And today the company still looks like a little brother compared with big players like Arcelor Mittal.

Yet you needn't have been Fisher to take advantage. Even if you had bought the stock in 1990, long after the company's initial move, you would have a fat 1,982% return on your hands. That's an 18.1% annual return, compared with the market's 9.0%.

The next wave
I'm an analyst on the Fool's Rule Breakers growth service, and I am constantly on the prowl for the best growth stocks out there. So with an eye on Fisher's most important lessons, here are three growth stocks I believe have tremendous potential:


Market Cap


Consensus 5-Year
Growth Estimate

optionsXpress (Nasdaq: OXPS)

$1.31 billion



American Oriental Bioengineering (NYSE: AOB)

$0.63 billion



LoopNet (Nasdaq: LOOP)

$0.44 billion



optionsXpress is an enticing pick, because in today's volatile markets, some investors are actually in heaven. These are the people from whom optionsXpress benefits most -- the traders. While competitors such as T. Rowe Price (Nasdaq: TROW) continue to go after a more buy-to-hold clientele, optionsXpress caters to a niche of more active investors who also happen to make more money for the company.

American Oriental Bioengineering is a high-risk, high reward prospect. The company makes money with a robust line of traditional plant-based and natural remedies for common ailments in China. This company has a nice balance sheet, is growing at a very fast rate, and benefits from China's cultural ties to traditional medicines.

LoopNet may look more like a value stock than a growth pick these days. But for this commercial real estate aggregator, membership numbers continue to swell. Yes, the company plays ball in an industry filled with giants such as CB Richard Ellis (NYSE: CBG), but revenue growth continues to surge ahead at incredible paces and many industry insiders are beginning to realize the value of LoopNet's services. The larger market may be dumping anything touching real estate these days, but consider this a niche with a very bright future.

More where those came from
These are three of my favorite growth picks, and I look forward to seeing them flourish. Fisher's principles, which are elemental in my own approach, are also a big part of how we research at Rule Breakers -- where growth is king.

If these principles agree with your style, then I advise you to try the service free for 30 days without obligation. We're outperforming the market average right now by nearly 4 percentage points. You can see all of our research and recommendations immediately upon joining, and there is no obligation to subscribe.

This article was first published July 30, 2007. It has been updated.

Rule Breakers analyst Nick Kapur owns no shares of any company mentioned. LoopNet is a Rule Breakers recommendation and Motley Fool Hidden Gems recommendation. optionsXpress is a Stock Advisor pick. The Motley Fool has a disclosure policy.