The economy may be sluggish, but it is still possible to find companies that are recording solid sales growth, says Chad Meade, portfolio manager of Janus Triton (JGMAX). “If a company has a competitive advantage, it can grow during periods when most businesses are doing poorly,” he says.
The Janus managers seek small-cap companies that can grow at least 12 percent to 15 percent annually. They favor businesses that operate in sizable sectors and can increase their market shares. “We like companies that can go from a 5 percent market share to a 20 percent share,” says Meade. (Meade visited the Registered Rep. office recently along with his fellow manager Brian Schaub.)
The two portfolio managers worked as analysts for Janus during the market downturn that began in 2000. Seeing how many funds were clobbered when Internet startups collapsed, the partners developed a more cautious approach to owning growth stocks. Instead of taking companies that can skyrocket for a year, the Janus managers only take stocks that can grow consistently for long periods. They prefer businesses with solid balance sheets and growing profit margins.
After the Janus managers buy a stock, they aim to hold on for years. The goal is to buy little-known small stocks and hold them until they become dominant midcaps. The fund has an annual portfolio turnover of 50 percent, suggesting that the average stock stays in the fund for two years. That is very different from many managers who trade rapidly and hope to hold shares during their periods of fastest growth.
The careful approach has worked most of the time. During the five years ending in September, the fund returned 8.8 percent annually, outdoing all 233 of its small growth peers, according to Morningstar.
Schaub says that it is possible to find rapid growers even in industries that face headwinds. A favorite holding is CoStar Group, which provides data on commercial real estate. CoStar’s clients include brokers and property owners, groups that are struggling to stay afloat. But the data provider is growing quickly, and it appears to be in the early stages of a long expansion. Offering more comprehensive data on property sales than was available in the past, CoStar is winning new clients. “The revenues of real estate brokers are still well off their peaks, but CoStar’s revenues are hitting all time highs,” says Schaub.
Another stock Schaub likes is Polaris Industries, a maker of motorcycles and all-terrain vehicles. Sales for the industry overall have sagged as consumers cut back discretionary purchases. But Polaris is achieving record sales and gaining market share by offering superior vehicles.
Janus is not the only fund that aims to patiently hold small growth stocks for years. Another top performer is TCW Small Cap Growth (TGSCX), which has returned 8.7 percent annually during the past five years, trailing Janus by a hair. Portfolio manager Husam Nazer wants companies that can grow at least 10 percent annually for the next three to five years. He favors companies that can deliver high profit margins because they enjoy low costs or innovative products.
A holding is Lumber Liquidators, which supplies hardwood floors. Despite the weak housing markets, the company is opening new stores. “They are taking market share away from Home Depot and Lowe’s,” says Nazer.
A fund that focuses on the highest quality growth stocks is Lord Abbett Developing Growth (LAGWX), which has returned 7.0 percent annually during the past five years, outdoing 98 percent of competitors. Portfolio manager Thomas O’Halloran seeks companies with solid balance sheets and compelling business models.
The average stock in the portfolio has increased earnings at a 20 percent rate during the past 12 months. O’Halloran wants businesses that can grow rapidly, even when the economy is sluggish.
A holding is Opentable, which enables consumers to make restaurant reservations online. Revenues have been growing at a 37 percent rate, and O’Halloran says that the rapid growth can continue for another three to five years. “The online reservation system offers tremendous convenience for diners and restaurant owners,” says O’Halloran.
A steady performer is MFS New Discovery (MNDAX), which has returned 6.2 percent annually during the past five years, outdoing 95 percent of its competitors. The fund holds a mix of stocks that includes early-stage companies with rapid growth as well as veteran businesses that have delivered steady showings for longer periods. Portfolio manager Thomas Wetherald also takes cyclical businesses that are about to enter periods of rapid growth. The broad mix enables Wetherald to excel under a variety of market conditions. His fund outpaced most competitors during the downturn of 2008 and in the rally of 2009.
An early-stage holding is Country Style Cooking, which operates a chain of quick-service restaurants in China. “Their goal is to become a leading restaurant company in China, and the early results have been phenomenal,” says Wetherald.
The fund recently bought some high-quality companies that supply semiconductors to makers of computers and mobile devices. Holdings include Hittite Microwave and Silicon Laboratories. Sales have been disappointing lately because technology manufacturers took on excessive semiconductor inventories in anticipation of an improving economy. But Wetherald says that inventories will soon have to be replenished because of strong sales of technology products. That will lead to a sustained period of growth for the semiconductor makers.