MarketWatch Names Five Qualities of Stable Growth Stocks

MarketWatch Names Five Qualities of Stable Growth Stocks

MarketWatch spoke to CEO Chris Armbruster, whose Virtus fund invests in growth stocks. The investor highlighted the characteristics of the companies, shares of which can rise even during a rate increase.

What to look out for

In recent months, shares of technology companies have fallen due to concerns about the growth of interest rates.. Higher rate makes investors overestimate the expected cash flows of companies, and with it the value of their shares.

According to Armbruster, the impact of betting on tech companies is exaggerated: "Never mind, raise the rate to 1 or 2,5%. This will not affect the ability to grow, unless there is a recession. We've already had interest rate hike cycles., and the best technology companies grew during these periods.".

Virtus manager, who invests in growth stocks like SiteOne, MercadoLibre and Paycom, considers: good tech companies need to have certain qualities. Here are five of them..

High migration costs. First of all, this is a characteristic of software development companies. Clients of such companies, especially corporate, it can be difficult to abandon any software after its implementation. And the transition to competitors takes time and money.

From the words of Armbruster, a good development company should update its product regularly, to keep customers. As an example, he cited Workday - financial and personnel management, Datadog - Server and Database Monitoring and Okta - Identity and Access.

Scale advantage. Large companies can reduce costs due to their size. An obvious example is Amazon. Less obvious – SiteOne. It is a wholesale supplier of landscaping products.: irrigation systems, outdoor lighting, measuring instruments, fertilizer, seeds and other things.

«SiteOne is five times the size of the next biggest player. This scale allows them to buy materials at a lower price and meet demand better., than local players. All this gives them the opportunity to create a digital ordering and delivery service., which small companies can't afford.", Armbruster said..

Strong brand. A well-known brand allows companies to set their own prices and reduce advertising costs. Here Armbruster gives the example of Monster Beverage. In his opinion, Coca-Cola and PepsiCo presented a good line of energy drinks, but a strong brand helped Monster Beverage defend its market share.

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Differentiated Model. The term "differentiated" is difficult to define, but you will understand everything at once, when you see. New York Signature Bank looks like just another bank. But if you look closely., then you notice something else.

Signature is not growing at the expense of acquisitions, like a typical regional bank, and attracts the best banking talent. It pays employees based on the results of their work. Bank motivates staff, and this creates highly productive teams. It's a very differentiated model.", Armbruster said..

Network effect. According to the manager, the more people use the service, the stronger it becomes.. For example, this is the MercadoLibre marketplace. Like Amazon, the site becomes more attractive to investors as the number of buyers and sellers grows.

What not to do

According to Armbruster, it is important not only to buy correctly, but also sell correctly. The manager proposes to get rid of shares, if the company's fundamental valuation has changed. This approach explains, Why do fast growing stocks drop so much?, even if they are just a little short of analysts' expectations..

"We don't like to average.. A growing company may continue to fall, before value investors enter the stock.", Armbruster said..

At the same time, the manager advises to leave in the company's portfolio with temporary, solvable problems. He cites DocuSign as an example., which promotes digital signature technology. Between the beginning of the pandemic and December 2021, the company's stock has roughly tripled.. BUT 2 December DocuSign published a quarterly report. Revenue and profit were better than expected, but the forecast for the next quarter fell slightly short of analysts' estimates.. On that day, DocuSign shares fell by 40%.

Here's how Armbruster explains the company's results: "The sales department could not look for potential customers.. They just had to pick up the phone.. Seems, they have become overconfident. And when the phone stopped ringing, the company could not return its level of sales. But DocuSign still has a competitive advantage.. The value of a digital signature is clear".

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