Capital Growth Strategy - Explained
What is a Capital Growth Strategy?
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Table of ContentsWhat is a Capital Growth Strategy?How Does a Capital Growth Strategy Work?Approaches of Capital Growth StrategyHow Suitable is a Capital Growth Strategy?How to Construct a Capital Growth StrategyAcademic Research on Capital Growth Strategy
What is a Capital Growth Strategy?
A capital growth strategy is an investment strategy seeking capital to expand operations in a business lifecycle. The operation expansion is through asset allocation to securities, of course, with high return expectations.
How Does a Capital Growth Strategy Work?
Companies seeking growth capital are more mature compared to venture capital-funded companies. In most cases, such companies are able to generate both revenue and profit. However, they may not be able to generate enough funds for major acquisition, expansion, or investment. For this reason, they will want to look for alternatives to get capital growth. Growth equity becomes critical to ensure that there is:
- Facility expansion
- Sales and marketing initiatives
- Equipment purchases
- Development of new product
Generally, growth capital is for restructuring a company's balance sheet in order to reduce its debt. Companies seeking growth capital investments in most cases are not suitable candidates for borrowing extra debt. The reason could be that either their earnings are not stable or because their existing debt levels do not allow them. Just as it is with an aggressive growth strategy, a capital growth strategy portfolio is capable of taking an additional risk with anticipation of higher profits in return. Note that the higher returns come with higher risk, meaning that there is high volatility with this kind of portfolio. However, the portfolio is suitable for those investors who can tolerate high-risk scores. Investors ready to invest in this kind of investment portfolio should be ready to suffer significant losses on various occasions. Note that this is beside it having the potential of giving either average or high returns. In general, the capital growth strategys main objective is to ensure that there is an increase in long-term capital (increase in common stocks value).
Approaches of Capital Growth Strategy
Most businesses consider capital growth a priority. To achieve this, a company can apply various approaches to ensure that there is an increase in future earnings. There are various capital growth strategies. They include the following:
- Allocation to Stocks
Nowadays, most companies prefer allocating equity assets into stocks. Just like a single individual stock, the worth of the asset is invested in different stocks hoping that there will be growth in securities. To determine how long, how much, and which stocks to use, you must analyze risks associated with the allocation. However, a company seeking to minimize risks when allocating stock, high-risk speculative stocks may not be a good choice.
- Improvements in Property
Property improvement is another approach for capital growth. In this strategy, a company owning property may choose to engage in a substantial and comprehensive improvement project. Note that this is with respect to its physical property. The projects may include things like painting, roof repairs, landscaping overhauls, and so on. Such efforts increase the value of property valuations as well as increased profits in the future.
- Hiring an Asset Manager
Another approach for capital growth is to employ asset managers. The approach asserts that assets increase their value when experts manage them. When the assets value increases, it signifies capital growth.
How Suitable is a Capital Growth Strategy?
Asset allocation involves investors incurring losses. Therefore, this strategy is designed to suit investors who are ready to handle massive losses. Also, it takes into account the number of cash investors are willing to lose and how soon they should expect the returns. Also, capital growth strategy suits those investors with long-term investment goals (10 years and above). The reason is that long-term investors are capable of taking on a higher risk of equities because they have time to recover from severe losses. Some of the capital growth strategys common goals include the following:
- Saving for retirement
- Funding for a college education
- Building a legacy for future generations
How to Construct a Capital Growth Strategy
There are a number of choices for investors when it comes to wetting up an allocation related to capital growth. For instance, investors have the option of building individual stocks portfolio. Here an investor can balance individual stocks with fixed income and cash. He or she can also hedge strategies that can influence options as well as futures. Also, an investor who has no time, or is not knowledgeable in managing individual stocks portfolios, can opt for exchange-traded funds or mutual funds. The packages are available in various categories giving an investor the opportunity to make choices. With capital growth, an investor will have varied exposure to stocks with value and potential growth. Additionally, exposure includes geographies and market capitalization. Lastly, an investor can choose a target-date fund holding allocation of bonds, stocks, and cash. One good thing about this option is that as the target time approaches, it becomes more of a custom. There is also a lifestyle fund which is another pre-set allocation choice. The lifestyle funds are used to maintain a fixed allocation based on risk levels choice.
Academic Research on Capital Growth Strategy
- Capital growth with security, MacLean, L. C., Sanegre, R., Zhao, Y., & Ziemba, W. T. (2011). Capital growth with security. InTHE KELLY CAPITAL GROWTH INVESTMENT CRITERION: THEORY and PRACTICE(pp. 355-372). This paper discusses the allocation of capital over time with several risky assets. The capital growth log utility approach is used with conditions requiring that specific goals are achieved with high probability. The stochastic optimization model uses a disjunctive form for the probabilistic constraints, which identifies an outer problem of choosing an optimal set of scenarios, and an inner (conditional) problem of finding the optimal investment decisions for a given scenarios set. The multiperiod inner problem is composed of a sequence of conditional one period problems. The theory is illustrated for the dynamic allocation of wealth in stocks, bonds and cash equivalents.
- Simulated annealing algorithm for optimal capital growth, Luo, Y., Zhu, B., & Tang, Y. (2014). Simulated annealing algorithm for optimal capital growth.Physica A: Statistical Mechanics and its Applications,408, 10-18. We investigate the problem of dynamic optimal capital growth of a portfolio. A general framework that one strives to maximize the expected logarithm utility of long term growth rate was developed. Exact optimization algorithms run into difficulties in this framework and this motivates the investigation of applying simulated annealing optimized algorithm to optimize the capital growth of a given portfolio. Empirical results with real financial data indicate that the approach is inspiring for capital growth portfolio.
- Optimal capital growth with convex shortfall penalties, MacLean, L. C., Zhao, Y., & Ziemba, W. T. (2016). Optimal capital growth with convex shortfall penalties.Quantitative Finance,16(1), 101-117. The optimal capital growth strategy or Kelly strategy has many desirable properties such as maximizing the asymptotic long-run growth of capital. However, it has considerable short-run risk since the utility is logarithmic, with essentially zero ArrowPratt risk aversion. It is common to control risk with a Value-at-Risk (VaR) constraint defined on the end of horizon wealth. A more effective approach is to impose a VaR constraint at each time on the wealth path. In this paper, we provide a method to obtain the maximum growth while staying above an ex-ante discrete time wealth path with high probability, where shortfalls below the path are penalized with a convex function of the shortfall. The effect of the path VaR condition and shortfall penalties is a lower growth rate than the Kelly strategy, but the downside risk is under control. The asset price dynamics are defined by a model with Markov transitions between several market regimes and geometric Brownian motion for prices within a regime. The stochastic investment model is reformulated as a deterministic programme which allows the calculation of the optimal constrained growth wagers at discrete points in time.
- Labour mobilization and the strength of capital: The rise and stall of economic democracy in Sweden, Olsen, G. (1991). Labour mobilization and the strength of capital: The rise and stall of economic democracy in Sweden.Studies in Political Economy,34(1), 109-146.
- Locks at the racetrack, Hausch, D. B., & Ziemba, W. T. (1990). Locks at the racetrack.Interfaces,20(3), 41-48. The folklore of investment is replete with stories of arbitrage opportunities where profits can be made without risk. Such a lock exists at the racetrack. A simple model provides a criterion for existence of a set of bets to create the arbitrage plus the size of the various investments.