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Fastest Growing Companies: Q2 2022 Trends

July 21, 2022

Is oil the new FAANG? Are we still in a tech-wreck? Learn why data is so powerful in stock selection, what unexpected growth trends we've uncovered, and how growth isn't always found where investors look for it.

EYE ON THE STOCK MARKET: EPISODE #2 - TRANSCRIPT

Welcome to our Eye on the Fastest Growing Industries segment featuring stock market commentary for the data-driven investor. Marc Zuccaro, Managing Principal of Golden Eagle Strategies, shares what the data tells is happening right now. Marc has focused on institutional design of algorithmic systems for two decades.

QUESTION 1: Tell me about how you see the world as stock scientists.

The way we analyze the market has always been grounded on data, which allows us to understand what's happening across the spectrum of growth stocks. We've always focused on achieving a process-driven approach to analysis, which ultimately makes our investment approach repeatable and scalable. Now, growth stocks have a long history of outperforming value stocks, particularly when you know which are as to look at, and particularly in areas that many people don't traditionally associated with growth, but where attractive ideas for investing can be found. In our day-to-day work, we use a data and rules-based process to find high-growth companies. But we're not looking at fundamentals or other subjective measures. Our approach is specifically top-down and ultimately dispassionate about the group of stocks that we analyze. So, we don't have to rely on any guesswork. As our own research has shown, and also research from many other practitioners over the decades, earnings growth is the best predictor of future price performance. And we really use that as the core of our process.

 

QUESTION 1: Why is the concept of growth so important to Golden Eagle Strategies?

As we look at growth, we're not looking for inefficiencies in the market or market timing elements but really looking for the traits that are correlated with the highest-performing stocks over a period of time. Now, let's talk about the big picture first. Investors have a habit of looking at investments by bucketing them. That's a natural human way to organize things in our minds. As an example, think about the Morningstar grid. The Morningstar grid posits growth versus value on a spectrum and then combines that with a market cap spectrum. Where a stock's dot falls on that grid tells you what bucket it's in and where it's probably going to live for a while. Now, sector exposure is another bucket that's relied heavily upon as investors try to balance their picks or their managers across different parts of the economy. Now, that's all fine, but it's somewhat arbitrary, and it's not particularly dynamic. In the growth versus value debate, performance comparisons typically rely on indices or baskets of stocks that are chosen based on a stock's attributes specific to one point in time, and they're not frequently updated. For example, most people would consider the stock of a high-tech company a growth stock. Fair enough. But is that stock or the group that it's in always in a growth mode? No. Each segment of the market has its ups and downs, and we try to be cognizant of that. What we do is we ignore the common buckets, and we really let the data show us what a growth stock is at any given point in time. Once we have a universe of stocks that we're interested in, and we call that our growth leaders list, then we can use our own process to decide which ones are the best bets.

 

QUESTION 3: What does the universe of growth stocks look like? And how is it different compared to common perceptions?

Our process tries to uncover where growth is happening now. One of the slogans that we use is "we seek performance now, not later", because we're not trying to predict when a company might grow by looking at its fundamentals or anything like that, but we are interested in its current performance, and we do that by screening the whole universe of equities. So to illustrate the point using the traditional buckets that I mentioned before, if we look at sectors, there are some sectors which are fairly consistent in terms of the number of stocks which appear to be high-growth stocks. I'm talking about financial stocks, industrials, materials, utilities. Each of these groups are consistently represented in our list of high-growth companies, even if they don't comprise the majority. But where it gets more interesting is in some of the sectors where you see growth come and go. And here I'm talking about consumer discretionary, healthcare, energy, and occasionally, even technology. Each of these sectors have distinct waves and growth shifts across them. I think the typical mentality is that growth stocks are more aligned with technology industries. And I think many people also think they're more aligned with small-cap or mid-cap companies that might be going through a high growth phase, as opposed to a larger, more mature large-cap company. But one of the really interesting things that we've seen, certainly over the past five to ten years, is as technologies become more and more a significant part of the economy, growths tocks are found in a lot of areas that are not traditionally associated with growth. You see a lot more large-cap stocks, even mega-cap stocks, which are consistently accounted for in our list of leading growth companies. Now, we don't want to be wed to the idea of growth only occurring in certain places, we want to go wherever the growth is. So, tech frequently has the highest number of high-growth stocks, but that's not always true. And certainly, the first half of 2022 has been a very robust example of tech not performing to its usual standards. But ultimately, our goal is to monitor where growth is occurring (and slowing) by using a data lens, and our ability to harness that info gives us an edge by not being too focused on a sector which may be going through a period of substantial underperformance.

 

QUESTION 1: What trends have you been seeing this year?

Let's talk about 2022, which has been a very sobering but interesting year when it comes to growth. Technology stocks, whose earnings exploded during 2020 and 2021, started to disappear from our growth leaders list late last summer in 2021. Huge earnings gains by these companies during the pandemic created very difficult comps, and the growth rates temporarily slowed, leading to them falling off the list. Coupled with some other well-known market news over the past few quarters, tech has been completely savaged so far this year, and the drawdowns are huge. Common household tech names are down 40%, 60%, sometimes 90% year to date, so well off their highs with a lot of ground to make up in the future. At the same time, another interesting thing that has happened is energy stocks have spiked on our list. And that began in quarter three of last year. The energy sector was one of the few bright spots in the first half of this year. Energy is pretty interesting because it's not something most people traditionally think about when you're talking of growth stocks. But it's consistently a high proportion of the number of growth stocks that come through our screens. Right now, we are at the beginning of an earnings cycle and second-quarter earnings are starting to come out. This is the period when our list typically shifts the most, and we're monitoring for the next legs in the market. What I would expect to happen is that energy, which has been the leading growth stock sector for the past couple of quarters, will start to turn and come down as the promise of oil going to even higher prices wanes. I think we'll see a shift back towards the traditional industries and sectors, which are normally considered growth-oriented. Since the 2022-21 comparisons should be easier than 21 to20. And another thing to keep in mind is we've just come through a huge wave of growth stocks, where the list of tech and service companies that qualified as high growth really exploded during the pandemic, and our list almost quadrupled at times compared to typical historical levels. But we're starting to return towards normal levels and this helps put the focus back on areas of the economy which are truly generating consistently high growth. We'll start to weed out the outliers that really got a pandemic-only bump.

 

QUESTION 5: As we look ahead, what are some of the things investors should keep in mind?

To avoid restating too much of the obvious, investors should not be considering getting out of the market now. This is something that happens during almost every big market drawdown or bear market, where investors start to pull their money out of stocks at the absolute worst time, which is towards the bottom. The important thing in maximizing your long-term returns is to not miss the bounce-off of the bottom. And even though the news is bleak now, and nobody's put their head on the block to call out a market bottom, it's really important that people keep perspective that the market is much more likely to take a big jump up than to have a big drop down. So, from this point forward, if people are in the market, they should continue to be in the market. And if not, they should start to think about scaling back into the market.

Another thing we've heard a lot about is style drift among managers. Even long-short managers have gotten incredibly bruised this year, and they are reacting to that and trying to figure out how they can claw back return in the second half of the year. And that has led to either intentional or unintentional change of tactics from what they're meant to be doing over the long term. And that's another great way to damage your returns, to change what you're doing and change your investment strategy just because of the market conditions. So, it's important to stay the course with your investment plan.

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This transcript was generated by software and may not accurately reflect exactly what was said.

Please note, that the thoughts expressed in this podcast are those of the presenter. This is not, nor should it be considered an offer or a solicitation of an offer for investment.

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