Portfolio Insights: Alger Weatherbie Specialized Growth
PM Update: Alger Weatherbie Specialized Growth Strategy
H. GEORGE DAI, Ph.D. Senior Managing Director Co-Chief Investment Officer Weatherbie Capital, LLC
And so, this philosophy and the process has been time tested for more than several decades. And upon founding Weatherbie Capital, we have had a meticulous way of building our team, which is to find people with some experience but not too much, that this person needs to come in with a hunger to learn with the passion to learn how to invest, and with adequate IQ and to be a team player. Over several decades we have built a team that has learned from each other, has matured, has accumulated lots of experiences through the ups and especially through the down periods. We also have a “continuous improvement” mindset, which guides us not only through the current period but should facilitate us to create value way into the future. Every day we try to continue to improve. This is point number one.
George Dai recently provided a portfolio update for clients in the Alger Weatherbie Specialized Growth strategy. The call was hosted by Tyler Foster, a senior vice president and director of business development in our distribution organization.
Please note, this transcript is from a call on July 15, 2020 and it has been edited for clarity and brevity.
Tyler Foster: Thank you all for joining us today. We’re pleased and fortunate to have George Dai of Weatherbie Capital with us today. He’s portfolio manager on the Alger Weatherbie Specialized Growth Strategy, he’s co-CIO of Weatherbie Capital, and he also serves as an analyst for the team covering diversified business services, health care, and technology. George joined Weatherbie Capital in March 2001 and has 22 years of investment experience. The structure for today's call is I will moderate a Q&A with George, and we will open it up for questions from the audience about halfway throughout prepared comments, and we'll also open up for more questions towards the end. George, thank you for joining us today. Tyler Foster: We have seen the strong performance results your team's been able to deliver. What do you think has enabled you and the team to be so successful both over the long term and the short term? George Dai: Our firm, which was founded by Matt Weatherbie in the mid-90s has more than two decades of an investment track record in the current form. Matt established the Weatherbie Way of investing, of finding what we believe are high-quality growth companies that can potentially deliver outstanding growth and the returns to benefit our clients. George Dai: Thank you, Tyler.
Point number two is that the whole team is dedicated to the small to mid cap asset class of growth investing. We believe we are specialists.
And number three is our style. If you look at the market, it is broad, it is shallow, and it is fast, especially if you refer that to index investing, but we go exactly the opposite way. We go narrow. We only own 50 names instead of 1,500 names. We go deep so we really spend weeks, months, sometimes years studying a company before making an investment, and we are very deliberate. We don't trade as much and we do lots of due diligence before we even invest in the first dollar.
Tyler Foster: Could we also touch on the investment process? What do you believe are the most distinguishing aspects of the process?
George Dai: We believe that three things really differentiate us from our peers. One is we are specialists and are dedicated to investing in the smaller cap part of the market, which is highly dynamic, meaning things always change, and very inefficient as well. People know that the sell side has reduced the coverage to this part of the market dramatically over the last several decades. Second is we fish in a different pond. What does that mean? That means we invest in the technology and health care space. But we also find a lot of value- creating companies and stocks in so-called mundane industries. For example, let's say the junkyard, auto parts companies, the waste management companies, the residential real estate service companies. And point number three is we do have a multi-PM sleeve approach. Our strategies at Weatherbie Capital are managed by several portfolio managers, and all of us have had lots of experience under our belt. So one key benefit is it provides additional layer of risk mitigation at the PM level, which the single manager approach does not have. So these three points combined make us quite different from most of our peers. We believe it works for our goal, and we intend to further carry this strategy on and to continuously improve as I discussed before.
frequently and we challenge each other, however, without the worry that our opinions may get lost, and we uncover each other's blind spots.
At the end of the day, all managers have their own real- time returns, so we are held accountable for what we do and we do our best to create value while mitigating risk. We believe that really suits our culture. And we have done this for this particular product for about 10-1/2 years and the numbers really speak for the effectiveness of this approach.
Tyler Foster: Could you comment a little bit on how you and the team have navigated pretty notable ups and downs in the market related to the COVID-19 crisis?
George Dai: Sure. That's actually the most recent testing time that we just went through and historically whether we had been doing this for multiple decades – and I personally have gone through this professionally at least three times. We have taken the opportunity to use the volatility to our advantage to attempt to create value for our clients. So how did we do that? The U.S. economy came into this year very strongly and the unemployment rate was below 4 percent. That was the best in the last 50 years. However, there was a threat that most people were not aware of. That was the coronavirus coming to haunt the world. We at Weatherbie Capital became aware and were closely monitoring the situation because I came here from China many years ago and I still have family and lots of friends and classmates that live in China. We were hyper alert in terms of the potential damage and threat to the global economy. And then the dark cloud finally came; we believe we were very well prepared. We made two defensive moves followed by two offensive moves in the last few months. First let’s look at the two defensive moves that we took in late January and early February after realizing that the coronavirus will have a much more significant impact on the U.S. We substantially reduced position sizes of holdings with significant exposures to China – either in revenue or in supply chain. An example would be Wayfair and some other smaller positions.
Tyler Foster: Could you comment on the benefits that you see for the multi-PM structure at Weatherbie compared to the traditional single-PM approach?
George Dai: Yes. This multi-PM approach marries the benefits of a single-manager approach and the traditional team-based approach. In our view, the three benefits of the single-manager approach are agility, accountability, and independence. In our multi-sleeve approach, we have all of these because each portfolio manager, as long as we stay well within the risk perimeters that we define way ahead of time, is acting as if you are managing an independently managed fund.
At the same time, we have the benefits of a committee- based, consensus-driven team approach. We get the intellectual stimulation of a team. We communicate
George Dai (continued): In February and in March, we did a thorough liquidity analysis of the balance sheet of all of our holdings. We reduced the weightings of companies, which were unprofitable and had high leverage – a lot of debt. These companies wouldn't do well when the whole country and the whole world was under a lot of pressure. Then the U.S. federal government actually took a lot of action stimulating the economy with both fiscal and monetary stimulus. We then made two offensive moves in April and May and the subsequent weeks and months. We believe we significantly upgraded the quality of our portfolio by putting more capital into our highest conviction names. These are companies with the strong competitive positions, with strong balance sheets, with strong growth potentials, and typically these companies would recover more significantly and faster than their peers. The second offensive move that we made is we took advantage of the market sell off by buying some high quality new names that were “on sale” in our opinion. A combination of these activities, which were conducted very methodically and thoughtfully, helped us to navigate the crisis relatively better than others and the result was our strong performance. Tyler Foster: Very good. And job well done to you and the team as well. If you wouldn't mind, we would like to take a pause here and see if we have any questions from the audience. Speaker Question: Where do you see the most growth coming from within the sectors that you've been emphasizing? That's question number one. Number two is would you name a couple of names within your portfolio and the investment rationale briefly? George Dai: Absolutely. In terms of the growth and where we see the most – we see lots of growth in traditional technology and health care areas. These are the areas that we do very well, but some of our competitors also do quite well. These are the traditional areas that we do find a lot of opportunity. Now on top of that, we also see lots of growth and actually sometimes even more stable growth, meaning with less volatility and downsized risks, in the areas that often are not being studied by our peers. A few
examples would be – let's say real estate residential services companies like FirstService Corp. It is a leader in its space and it is several times bigger than its competitors. It manages all of the mundane but necessary services of a community, such as lawn mowing, pool cleaning, security. This kind of company sounds boring; however, it's a very stable and growing with organic growth in the mid- single digits. In fact the company has had compounded growth for several decades in the 20% range in EPS. In this current economic environment we see lots of growth across the board. And so what differentiates us vis-à-vis a lot of our peers is our hunting ground is a lot broader. We are not just restricted to health care and technology. I can provide you with a few names and the rational. FirstService is one that I like to discuss. The other example I like to use is Chegg. This is one of our top names. It bridges the traditional mundane that the Street calls educational servicing industry, which grows at less than the GDP rate, and technology. The mundane industry of education is being transformed by Chegg because they were initially just a textbook rental company and that was not all that attractive of business. They have now transformed this business into a business that's focused on digital study service tools and they now dominate that market. And all of this is being designed and delivered through the internet. As such, this company is now more viewed as a technology company. And it's actually in a boring industry for educational service but it is growing like a high-tech company, which the top-line is 30% to 50% year-over-year growth. So that represents a theme in a lot of our holdings. A company using technology to deliver more value at a lower cost to their clients and in often times mundane industries. Tyler Foster: All right we'll again open it back up to questions in a moment. But we had a couple other things we were hoping to make sure to touch on. George, how do you and the team assess valuations for the companies you cover? How does valuation factor into your investment process? And are there certain metrics you prefer over others?
George Dai: Yes, in our view, valuation is a dynamic process especially in the smaller cap growth area. Some of our companies have earnings and then some of them have revenues that are losing money and some of them are even pre-revenue. We used a variety of methodology to measure the intrinsic value of our investments. And valuation is an important piece of the puzzle that we look at. Now having said that, it is only 15 to 20% of the total consideration. The more important aspects are the quality of the business, the growth potential, competitive advantage and some other qualitative and quantitative measurements. We have noticed that the pockets of the markets such as in certain tech names have seen pretty high valuations. In which case we have already banked the profit. Importantly we continue to find what we believe are very attractive investment ideas in our part of the land due to the heterogeneity of our hunting grounds and the lack of adequate sell side coverage. I mean, for example, when we started owning Chegg, which is the story I just talked about, very few people had heard of it. We can more effectively control the valuation at the entry point meaning at the purchase. And the Street may pile in and drive up the valuation. Along the way our clients may benefit. Now when the valuation gets overly excessive we take profit and go to look for the next best ideas, for example the ones we talked about and The Trade Desk is another good example. Tyler Foster: Another topic I wanted to ask you about is the natural and ongoing difference in results between growth and value. I think this is maybe there is heightened attention on this subject right now. With growth generally outperforming for a number of years and many people are expecting a reversion to the mean. I think there's a large swath of investors out there who have been strong believers in value investing and it's worked really well for them over a number of decades. And meanwhile, Alger's Director of Market Strategy, Brad Neuman, has spoken and written about several reasons, both structural and fundamental, why growth may actually continue to outperform. Could you share your personal view and thoughts on this growth versus value question?
George Dai: This is actually not only an investment question but also at a high level, a philosophical question. Our belief is eventually, at the end of the day, a company's market cap really depends on how much value the company provides to the society. Highly innovative companies like the growth companies we own add a lot of value. They define the future, for example, they may create the next wonderful medicine that can cure certain deadly diseases or make people feel better and make them live longer. In technology they make your life and your work much more efficiently and more pleasurable. And therefore we believe they have the potential to outperform because they are the future. Also, as Brad Neuman shared earlier this week in his research, the most innovative companies outperformed by about 6% per year in the last decade. So these are growth companies. While the least innovative companies have underperformed by 3% per year during this same period. We continue to like growth companies because we believe they represent the future because they add value to society. A lot more value to the society than the ill-defined value companies here. Tyler Foster: Yes, at Alger we've often spoken about Positive Dynamic Change and think to say it differently, the companies we're investing in are the beneficiaries of change and many of the traditional value companies may be victims of change.
Speaker Question: How long do we think small caps are going to outperform large cap? In terms of a baseball game analogy, what inning would we be in?
George Dai: Ok. Thank you for the question. We believe that smaller cap companies actually are as dynamic and often times more dynamic than some of the larger companies. So our time horizon is really multiple years or multiple decades.
Over time we judge the fundamentals of our company. For example, let's say quantitatively our bottom-line earnings growth for the whole portfolio is 20 percent plus. And this has been very consistent over many years as computed by Matt Weatherbie, who has done this for multi-decades and in the current form. So as long as the earnings continue to grow at 20 percent plus and if the multiples stayed the same, then the stock, the appreciation should be at this similar rate. We try not to look at this as kind of a cycle when smaller cap outperformed large cap vice versa. It is our job to find what we believe are the best, most dynamic and fastest growing companies to benefit our client's interest. Tyler Foster: Thank you. George, I have one last question that I think is a very important one and maybe even a good question to end on. We've seen the strong run for growth in general and your strategy. What gives you confidence that you and the team will continue to deliver strong results in the future? George Dai: I'll say that we are blessed to be in a compounding business. So often times people say that you guys have done well and wonder if they are buying at the peak. Following our time-tested Weatherbie Way, which continues to adapt and improve, and our team is mature and highly experienced and it will continue to add fresh blood to our team and it is our goal to create a lot more value in the next few decades. We let the compound mechanism benefit our existing and future clients. This is kind of the over arching view. And let me discuss a little bit more the median and the short-term view why we believe this is a good time to invest. We all know the U.S. economy dipped into a deep recession as early as February of this year and I think that the U.S. economy is climbing out of this short but very deep recession as we speak. With so many innovations ranging from cloud computing, ecommerce, gene therapy, autonomous driving, etc., which are making this world a better place and along the way creating so many opportunities for prepared investors to benefit. In the near term, great advancements in vaccines and the treatments are giving people hope that we will conquer the virus in the next year or so. In fact, as we speak, there are four pivotal trials in vaccines that have
already started or are going to happen in the next three months.
And a pivotal study in the treatment has already been initiated. And some of the early data have shown great results, including this morning's Moderna's data, which was published in New England Journal of Medicine. So in the best case scenario, Pfizer's CEO and the CSO, the chief scientific officer, talked publicly about a potential U.S. approval of its messenger RNA-based vaccine in October this year. And we think about it, with an effective vaccine we pretty much will be able to get over this virus and we'll resume more or less the normal lives that we had before. And the massive monetary and fiscal stimulus and measure it in the double digit trillions of dollars on a global basis of providing the upward pressure in the financial market. These are the points that have the possibility to propel the markets forward and up in the near and the medium term. We are very bullish over the longer term and over the shorter term we are actually cautiously optimistic that we are going to get over the virus and human society is going to prevail. Tyler Foster: It's certainly been a pleasure hearing from you and we thank you for taking time out of your busy day. If you have additional questions or would like to review the strategy in more detail, please reach out to your local Alger representative. We will be making available a transcript of today's call and we'll be sure to share it with you and your colleagues.
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Important Information for Investors in Spain : Funds are authorized for distribution by the Comision Nacional del Mercado de valores. The latest prospectus, KIID and annual and semi-annual reports are available free of charge on www.lafrancaise-am.com or can be obtained from Allfunds Bank SA Calle Estafeta 6- Complejo Plaza de la Fuente, Edificio 3, La Moraleja, Spain. The following positions represented the noted percentages of assets in the Weatherbie Specialized Growth Composite as of 4/30/20: FirstService Corp., 5.13%; Chegg, Inc., 6.08%; Trade Desk, Inc., 3.15%; Wayfair, Inc., 2.13%; Pfizer, Inc., 0%; Moderna, Inc., 0%.
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