Growth stocks must have three certain traits for Thomas Ognar, lead manager of $1 billion Wells Fargo Large Cap Growth Fund (STNFX), to buy them. They need robust earnings growth and sustainable growth. And their growth in at least the next few years must be underappreciated by most investors.
X"What isn't being priced in?" Ognar asked. "Is there a new product? Some changing dynamic of the competitive structure of a stock's industry? Something that allows it to have a longer growth curve than most investors expect?"
And for a mutual fund manager to be successful, he must also master one additional skill: "You must be as good at knowing when to sell as when to buy," Ognar said.
Ognar and his colleagues, co-managers Joseph Eberhardy and Robert Gruendyke, have nailed their own job requirements.
The fund topped the S&P 500 in calendar 2018. It also beat the broad-market bogey on an average annual return basis for the three, five and 10 years ended Dec. 31.
Growth Stocks: Picks Led To 'Best Funds' Award
That four-time triumph led the fund to the winner's circle as one of IBD's 2019 Best Mutual Funds.
This year going into Wednesday the fund was up 27.79% vs. 24.25% on average for its large-cap growth peers tracked by Morningstar Direct and 21.15% for the S&P 500.
Growth Stocks: Favorable Outlook
Ognar is guardedly optimistic about investment prospects for growth stocks. He says the fund tends to do well when the economy is neither too hot nor too cold.
"It also helps when investor enthusiasm has not been excessive," he said. In his view, that describes the current market. The past four calendar years and so far in 2019 investors have pulled out of U.S. stocks, causing net outflows. Those outflows demonstrate investor skepticism — the sort of environment in which his team's stock picking tends to stand out.
"This is when the secular growth winners really shine from a revenue, earnings and cash flow generating perspective," he said.
Growth Stocks: Amazon's Underappreciated Segment
Among his growth stocks, one reason why Ognar likes Amazon (AMZN) is that many investors think of it as one homogeneous business. But some of its segments have underappreciated potential.
"Amazon Web Services (AWS) is a much higher margin business than Amazon's core retail business is," Ognar said. "And the new leg, advertising, might have even higher margins."
Peak operating profits before taxes were 54% for then-Google (now Alphabet (GOOGL)) in 2009 and 59.7% for Facebook (FB) in 2016, Ognar says. "Theoretically speaking, Google should have higher margins than Facebook on the pure advertising business because of intent," Ognar added. "Theoretically, Amazon should have higher margins than Google because their shoppers have intent, plus product is available and Amazon has purchasing history."
ServiceNow's Branching Out
ServiceNow (NOW) shows both robust and sustainable earnings growth. That growth stems from the company's expansion of its tech services. "They started in the core IT management market," Ognar said.
He added, "When you had a computer problem, they'd start a ticket and fix it. Then they moved that out to IT operations. Now they're moving into HR, facilities management, customer service and security. So about 40% of their new bookings are from outside the IT department. And they're moving into government work, especially on the federal government side."
Mastercard Helps Bar Owners
Mastercard (MA), another of the fund's favorite growth stocks, benefits from several factors. Foremost, the credit card giant benefits from the global shift to electronic payments, away from cash and checks. In turn, that shift is aided by the ongoing rotation toward e-commerce, away from bricks-and-mortar retailers.
Business operators like bar and restaurant owners are doubly supportive of using more credit cards. "Bar owners had trouble with workers figuring out ways to steal or not put every dollar into the cash register," Ognar said. "When customers pay with credit cards, it more difficult for staff to steal."
Further, Mastercard is moving more into business-to-business (B2B) transaction via credit cards. "Mastercard is bringing pretty interesting solutions to that," Ognar said. "That won't take off overnight, but it can be a nice growth area for them."
Match Group Fuels Romance
Match Group's (MTCH) growth and sustainability stems from its network effect. Match owns many online dating sites, including Tinder, OKCupid, Hinge and Match.com.
"They've got competition," Ognar said. "But they've moved quickly and successfully to build out their brands. That attracts users. So if one site has more people than other sites, it creates a classic networking effect that snowballs."
Match also benefits from a demographic shift. "First marriages are starting three years later than they were 20 years ago," Ognar said. "That gives people three additional years to date and search for potential long-term partners."
Buying The Fund
If you don't happen to have access to institutional shares of the fund via, say, your 401(k) plan, you can buy A-class shares (STAFX) of the fund for an initial investment as low as $1,000. A-class shares are up 28.06% year to date.
Please follow Paul Katzeff on Twitter at @IBD_PKatzeff for more tips about personal finance and active mutual fund managers who outperform the market.
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