The major stock market averages ended 2009 on a high note, notching impressive gains after rallying off their March lows. But the ride was and continues to be bumpy, and not all stocks have been winners. With the market due for a slowdown and the economy gingerly emerging from the worst recession in the post-WWII era, Managing Director and portfolio manager Jeff Lindsey believes investors are wise to be discerning in their choice of investments. In this Point of View, he describes the current environment as a stock-picker's market and offers insight on largecap growth investing.
Q. Where are the opportunities in the stock market today?
The opportunities today are more stock by stock rather than sector driven, thereby our characterization of this being a stock-picker's market.
Opportunities can be found across various industries among companies that are reestablishing their growth rate post-recession or simply good old fashioned growth companies that are experiencing a new product cycle and exhibiting strong growth for that reason. We're finding a lot of these types of opportunities right now, as opposed to having to choose among a host of companies grappling to survive the environment. We don't have to concern ourselves as much with the economic backdrop or even what sector a company is in. We're looking at each company for its prospects and stock price.
Q. Generally speaking, given the run-up in stocks since March 2009, is now the time to be defensive or opportunistic? (View U.S. stock performance, 1/5/90-2/19/10.)
We still remain somewhat opportunistic. The run-up came from a very low level, so we find that stocks are still attractively valued relative to their growth prospects. That leads us to seek out and continue to emphasize what we would classify as the higher-growth companies.
Q. Why do you believe it's a stock-picker's market?
For several quarters, when things were looking very dim, the economic backdrop was the single most important factor in assessing companies for investment. That simply is not the case any more. Companies are increasingly back to business as usual, focusing on their people, their products and their sales prospects. In our view, success or failure in investing these days is going to depend much more on getting the individual stock fundamentals correct rather than on the likelihood of some particular economic scenario playing out, whereby some types of companies might hold an advantage over others.
Q. What exactly does this mean to you? Is the macro environment irrelevant in choosing stocks today?
This stock-picker's environment plays to our strength. Our style of managing portfolios is bottom-up, one stock at a time. We look at the individual company first and everything else second. This is how we've generated excess return over time.
So, ultimately, what it means is that we don't necessarily have to concern ourselves quite so much with those outside factors. We always take into consideration the industry, the fundamentals and the geographies in which a company operates, but individual company fundamentals are by far the most important factors to analyze. That's how our decisions are made.
Q. How do you go about separating the winners from the losers in this type of environment?
This is a time when companies gain or lose significant market share in their businesses. They've had to deal with a bad environment and they may or may not have invested throughout that environment. They may not be prepared for what's next. So it's a particularly interesting time to try to identify the market share winners and invest in them. Of course, we're always looking for companies that are producing results beyond expectations, even if those expectations are optimistic.
Attributes we might look for in a company today, in the aftermath of the “Great Recession” in the US and the worst credit crisis of our generation, are less reliance on debt given the problems in the credit markets and more exposure to emerging markets as a source of growth. Emerging market economies are poised to grow at a faster rate than the US and other developed economies.
Q. Can the average investor succeed in this environment or is special expertise required?
Many companies have experienced dramatic change and, for that reason, really need to be reanalyzed to fully understand their future prospects. Fundamental research—digging deep to really get to know a company—is of critical importance, particularly during and after periods of significant change. To us, that means meeting with CEOs, suppliers and competitors in an effort to get at a complete and true picture. This type of analysis can be difficult for individual investors to undertake. Investors can look to company guidance and news flow, but these resources are limited, at best. We find that companies are offering less guidance than they have historically, choosing to say less or be less specific about their future prospects. This makes it harder for the individual to make confident investment decisions.
Meanwhile, headlines are frequently misleading and often ‘old news' to those of us who have been following and researching a company for some time. We find that the headlines are less often news and more frequently the final recognition of something that we had been anticipating. This is why stocks sometimes go down on a seemingly good headline, because it really wasn't good enough, or vice versa. So, this can really complicate matters for the individual investor. We're fortunate to have the team, the technology and the global resources of BlackRock at our disposal.
Q. Describe your process for identifying stocks.
Our team of five investment professionals, each with sector expertise, conducts fundamental research to identify both stable growth stocks and opportunistic stocks that we believe can offer significant capital appreciation potential. We consider all US stocks with market capitalizations greater than $2 billion. We believe intensive fundamental research is the best way to understand prospects, predict stock performance and uncover price inefficiencies for large-cap growth companies. We meet with company CEOs, attend industry conferences, gather data from both internal and external sources and develop our own internal earnings projections in order establish an investment thesis for each company we invest in. Each company is chosen for its own individual attractive characteristics. That's the crux of our bottom-up approach.
Q. How do you balance stability and opportunity in an investment portfolio?
In the portfolios we manage, we typically will aim for an allocation of two-thirds stable growth and one-third opportunistic growth, although we allow the weight to shift as investment opportunities arise. Flexibility is an important component of our strategy that, we believe, enables us to be successful investors in the largecap growth space regardless of the environment and the overall direction of the market.
Q. As a growth manager, are you able to find suitable opportunities in a slow-growth economy?
Absolutely. In fact, we would argue that, against a slow-growth backdrop, growth companies are able to shine. These are companies that have internal growth generation. They are introducing new products, expanding geographies, adding sales people, taking market share, making acquisitions; they don't rely on a fast-growing economy to propel them along. So, true growth companies can really distinguish themselves in this type of environment. Conversely, in a high-growth environment, everyone is growing.
Bottom line: We believe a slow-growth environment can be a good backdrop for growth investing because the market recognizes the strength of that growth premium relative to other companies and, eventually, investors will acknowledge and pay up for those stocks.
Q. How do you expect growth to fare versus value in 2010?
Assuming we are in a slow-growth economy, we would expect growth companies to outperform simply because of their inherent ability to generate growth organically. Technology companies, for example, are experiencing very strong product cycles and many have high cash balances. Consider this, along with the sector's exposure to emerging markets and lack of government intervention (as compared to say healthcare or financials), and it leads us to a very positive outlook. Now, technology is a big part of the growth indices and a much smaller part of the value indices, so we could see IT driving growth outperformance in 2010.
More broadly, we also believe growth stocks to be attractively valued relative to their value counterparts at this point in the cycle, as illustrated in the historical comparison below. All of this should bode well for the growth style of investing in 2010.
Q. What is your outlook for the economy and the stock market?
We're looking for slow growth from the economy, but growth nonetheless. We expect that companies will do better than consumers and that positive earnings growth will be rewarded in the stock market. While consumers may have to wait longer for their employment outlook to improve and to regain access to credit, we expect that companies will be reporting better earnings and the stock market will look forward to that. Overall, we find the stock market to be attractively valued and, therefore, look for above-average returns in 2010. In particular, we believe large multinational companies should benefit from their exposure to faster-growing international markets.
(View attractive valuations for large-cap growth.)
Q. What advice would you offer investors at this juncture?
Although the stock market has recovered sharply since last March, we would contend that it's not too late to get in. In our assessment, stocks are reasonably valued and company fundamentals appear quite good. Companies are flush with cash, are able to access debt markets again and are pursuing growth. So for conservative investors who may be waiting for an ideal entry point, you may be waiting for a dramatic pullback that doesn't come in 2010. We'd encourage continued emphasis on equities and on diversification.
Referring back to a point made earlier, we believe it makes sense to re-evaluate companies that have experienced a great deal of change to ensure they fit in a portfolio today. As disciplined, focused investors, we're constantly refining our portfolios to reflect the best companies going forward; these will be different from those companies that were best in the past. If you think you know a company, ask again what its strategy is. It may have changed. In reaction to the volatility of the past couple of years, we've seen management changes, strategy changes and adjustments to business models. All of this requires detailed rethinking of which companies will give you the best investment return going forward. This is what our team does all day, every day.
We're also seeing more companies establishing a global footprint, making it important for investors to understand what's going on in other markets of the world. As the companies in which we invest have become increasingly global, we've done that here at BlackRock as well. We're able to do our own on-the-ground research in geographies across the globe, allowing us to have the most knowledgeable opinions of the businesses in which we invest. This is one of the many benefits of investing with a global investment manager. For this and the other reasons noted earlier, we believe it can make good sense for investors to choose professional management today.
Jeffrey R. Lindsey is a managing director and head of BlackRock's Fundamental Large Cap Growth equity team. He is co-portfolio manager, along with Ed Dowd, of the BlackRock Capital Appreciation Fund, BlackRock Fundamental Growth Fund and BlackRock Focus Growth Fund.
