Investing in ASX stocks is a great way to build wealth, in my view, but how are you supposed to choose what to invest in?
There are well over 2,000 individual businesses listed on the ASX, as well as other investment products such as exchange-traded funds (ETFs) and listed investment companies (LICs).
Different types of investing may suit different investors, particularly with the share market trading at close to an all-time high. So, I'll talk about how I'd choose to invest.
Hands-off investor
A hands-off investor is someone who just wants to benefit from ASX stock wealth-building without thinking about it too much. It can be a very effective investment method. As we highlighted earlier this year:
Research by Fidelity Investment Inc between 2003 and 2013 on its investor accounts concluded that portfolios belonging to people who either died or have forgotten about them tend to outperform those who are active.
So, it's possible to achieve solid returns just by investing in a good quality stock and leaving it alone.
The Vanguard Australian Shares Index ETF (ASX: VAS) is the most popular ETF that gives investors exposure to the ASX share market.
However, the ASX is weighted to ASX bank and mining shares, which aren't known for regularly delivering strong earnings growth, so additional exposure to the global share market could be more rewarding over the long term.
With that in mind, I like ETFs like Vanguard MSCI Index International Shares ETF (ASX: VGS), iShares S&P 500 ETF (ASX: IVV), VanEck MSCI International Quality ETF (ASX: QUAL), Betashares Global Quality Leaders ETF (ASX: QLTY), VanEck Morningstar Wide Moat ETF (ASX: MOAT) and BetaShares Global Sustainability Leaders ETF (ASX: ETHI).
ASX growth stocks
Another top investment strategy is to select ASX growth stocks that could become significantly larger in time.
Ideally, we'd want to choose companies that are growing revenue quickly, have a significant revenue runway, can grow profit margins as they become larger, and trade at a value that makes sense today.
Simply buying something at an expensive valuation may not be the best strategy if the market is already pricing in extreme amounts of growth.
Ideally, we'd want to look for quality growth shares before their prices shoot higher and are recognised by the market.
In this investment environment, with high prices, I'd want to try to find companies where the earnings growth rate (such as 20%) is less than two times the price-to-earnings (P/E) ratio number (meaning less than 40). The 'PEG ratio' compares the earnings growth rate to the P/E ratio. If we can find a PEG ratio of close to 1, or less, that would be very appealing, but they're rare today.
The Motley Fool services are about helping identify those growing businesses at a good price.
Some of the ASX growth stocks I own in my portfolio – which I bought at much lower prices – include Tuas Ltd (ASX: TUA), Temple & Webster Group Ltd (ASX: TPW), Lovisa Holdings Ltd (ASX: LOV) and Guzman Y Gomez Ltd (ASX: GYG).
The most important factor is to find businesses whose profit we expect to be significantly higher in five or 10 years than today. If the valuation is reasonable, companies can grow into it.
ASX dividend stocks
Investors wanting passive income have plenty of choices on the ASX, with many operating companies, real estate investment trusts (REITs) and listed investment companies to pick from.
Finding a good dividend yield may be a factor for investors, but dividends can be cut. So, I think the most important factor for ASX dividend stocks is to find growing businesses that provide appealing dividends. If earnings aren't growing, then there's a higher chance of a dividend reduction.
I like to look at companies that have a long-term track record of dividend stability and, hopefully, dividend growth. Earnings growth can also lead to capital growth, so good ASX dividend stocks can deliver pleasing overall returns.
In my portfolio, I've chosen ASX dividend stocks like Washington H. Soul Pattinson and Co. Ltd (ASX: SOL), Brickworks Limited (ASX: BKW) and MFF Capital Investments Ltd (ASX: MFF). I'm also thinking about buying the industrial property owner Centuria Industrial REIT (ASX: CIP).
