Growth has been king for the better part of a decade. Through the long-running equity bull market, classic growth stocks — technology and tech-related investments, in particular — have generated the lion’s share of market gains: Rolling 10-year returns for stocks in the Russell 1000 Growth Index have well outpaced the Russell 1000 Value Index for the past several years.
All this success has resulted in soaring valuations for many leading growth companies. After more than 10 years of gains, and with economic growth slowing, many investors may be wondering whether growth investing has run its course. Has the time come to abandon growth and shift to a value orientation?
“That is not how I think about investing,” says Anne-Marie Peterson, a portfolio manager for The Growth Fund of America®. “I don’t look at equities broadly, or categories of equities. I look at one stock at a time on a five-year view. On that basis, there are always going to be winners and losers. My job is to find more winners than losers.”
Since 1973, The Growth Fund of America has taken a flexible approach to growth, seeking opportunities with classic growth stocks, cyclical stocks and companies in turnaround situations with the potential to generate capital appreciation. “The beauty is that capital appreciation stories come in all shapes and sizes,” Peterson says. “There are many ways to succeed as a growth investor.”
We sat down with Peterson to discuss where she is finding opportunity in the current environment, her focus on dynamic leaders and how she is preparing for the next downturn.
How are you thinking about growth at this stage of the economic cycle? Are you doing anything differently in your portfolio?
I don’t really pay that much attention to the macro. I don’t closely follow the oil price or interest rates, because I don’t think that is an area where I can add a lot of value. So my approach doesn’t really change depending on where we are in the cycle. I focus on what I believe an individual company’s earnings power will be in five years, and whether the stock will be worth more or less.
I think of myself as a durability investor. I look for long-term growth compounders that I can see myself owning for a decade. I search for them in three areas:
- Enduring franchises with entrenched products or services
- Revitalizers, or established companies that may be under-earning and in need of a shift in focus to resume growth
- Innovators with the potential to generate game-changing growth and disrupt existing business models
The second and third areas tend to be led by rare, talented CEOs who drive value creation. Today, across industries there are companies that are innovating — creating new solutions or enabling efficiency —and there are enduring businesses that continue to evolve and expand their opportunities. I tend to focus my search for value in market sectors that are growing faster than the overall economy.
How do you think about disruption as an investment theme?
I am always on the lookout for disruptive innovation and how it impacts business models. I have spent more than 20 years as an investment analyst covering the retail industry, so I closely observed the impact of e-commerce. Amazon changed the way people shop, eliminating whole categories of businesses from the retail landscape. This helped me learn what not to invest in as well as what to invest in.
I am also interested in enterprise technology. Cloud computing has already slashed infrastructure costs for companies and begun to transform business models. The movement of IT workloads to the cloud over the next decade has the potential to drive demand for Amazon Web Services and Microsoft’s Azure, the two leaders in this area.
Just as mobile platforms created opportunity for companies like Amazon and Netflix to extend their reach with consumers, cloud platforms can help drive opportunity for online software service providers, like ServiceNow, which provides human resources, help desk and other IT support for companies.
You spoke about investing in franchises with the potential to be long-term growth compounders. What characteristics do you look for in established franchises?
I tend to look for franchises that have pick-and-shovel characteristics. What do I mean by that? Pick-and-shovel is an allusion to the California gold rush, when merchants like Levi Strauss did not prospect for gold themselves but became successful by selling picks, shovels and denim pants to all the prospectors.
An example in the biotechnology and pharmaceutical industries is Thermo Fisher Scientific, a company you may not have heard of that makes diagnostic and testing equipment for the identification of diseases and the production of biotechnology drugs and vaccines. It provides equipment to a host of companies that are racing to develop new therapies derived from genetic testing that have the potential to extend lives and generate billions of dollars in revenue. Some will succeed; others will fall short. Rather than trying to identify all the winners and losers, I have invested in Thermo Fisher to gain exposure to innovation in these therapies.
Can you offer an example in the fund of a company that was revitalized or turned itself around?
One example that you might not expect to find in a growth fund is Home Depot. When I began investing in Home Depot several years ago it was floundering and badly in need of a renaissance.
When Frank Blake was named CEO of the company in 2007, it was suffering from low employee morale, poor operational execution and declining same-store sales. Blake put his focus on people — the company’s customers and employees. He changed the leadership model, shifting the focus toward employees at the sites, boosting the bonus system and placing greater emphasis on service. Under Blake, who retired in 2014, the company’s profitability rebounded.
You said your assessment of management plays an important part in your investment decision-making. What do you look for in a CEO?
Companies don’t create long-term value, talented leaders and great cultures do. I spend a lot of time assessing leaders and cultures because I’ve seen many examples where the right or wrong leader made all the difference for a company.
Talented CEOs are rare. They are often underappreciated, but they drive value creation over the long term. At first, they might not seem like the right fit for the job. For example, Frank Blake was a soft-spoken lawyer with no retail experience when he took charge of Home Depot. But he possessed simple yet powerful insights into the business and what was needed to unlock its potential. He quickly came to understand the retail industry better than most longtime retail CEOs.
Reed Hastings, who founded Netflix in the late ‘90s, purposefully killed the company’s DVD business to focus on a subscription video-on-demand model. Who does that? Most incumbents want to protect what they have, but he had a vision and the courage to pursue it. When I look at my portfolio, instead of seeing the company name I will be thinking about its CEO.
Because of our long-term orientation at Capital, and the fact that many of our investment analysts spend decades covering companies, we have access to management. In some cases our analysts have followed a company longer than the management teams have worked for them. In other cases analysts have developed relationships with junior level employees who years later are named CEO.I think this provides us with a clear advantage.
Valuations for many leading growth companies have been elevated after a long bull market. What are your thoughts on valuation?
I believe long-term growth sustainability trumps short-term valuation. In some cases, the near-term valuations might get stretched, but I won’t necessarily sell an investment because I think the share price might stay flat in the next year, or that there might be a correction. If I have a lot of conviction in the business and the management, I’m content to keep it in my portfolio.
How do you prepare for the next downturn?
My strategy for preparing for rough seas ahead is to keep testing and retesting my conviction in the company, the duration of the growth rate, the management and the business opportunity. That conviction gives me comfort during periods of volatility. That’s my strategy.
One of the great things about The Capital SystemSM is that our funds are managed by multiple portfolio managers, each with a different perspective. So, as willing as I am to hold on through the ups and downs of a cycle, other managers in the fund may be positioned completely differently, providing the overall fund with an added measure of diversification.
Anne-Marie Peterson is an equity portfolio manager with 24 years of investment experience. She holds a bachelor’s degree in economics from the University of California, Irvine.
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