| NEW YORK, March 15
NEW YORK, March 15 With little attention from
Wall Street analysts and more than 2,000 companies to choose
from, the vast universe of small caps can overwhelm investors
looking for the next big thing.
The surging stock market offers little help. In a year when
the Russell 2000 index of small-cap stocks is already up nearly
10 percent, portfolio managers are facing one of the few
downsides of a stock market rally: how to find stocks that will
still look good two or three years from now, no matter market
Portfolio managers with a small-cap focus who are winners of
2013 U.S. Lipper Fund Awards stick to a clear investment
philosophy. The strategies of this year's award winners range
from a focus on niche companies to one emphasizing executive
turnovers or other major changes.
The funds have been recognized for delivering consistent
performance during the three-year period ending November 2012.
Here is how three Lipper award winning funds are playing the
small-cap world in 2013.
In a conference room in Memphis, Tennessee, the five members
of the investment team behind the Southern Sun Small-Cap Fund
spend most of their time finding reasons not to buy
Any small-cap company added to their concentrated portfolio
must first meet basic requirements like having a dominant
position in a specialty industry, a strong free cash flow and
the potential to double its share price over the next three to
five years. Even then, the team member who pitches the idea must
defend it as if it were a dissertation.
"You end up having to find the answers to questions you
never even thought of," said Phillip Cook, who works on the fund
alongside his father and company founder, Michael Cook.
As a result, the fund typically adds only a handful of new
positions a year, and its managers emphasize meeting with a
company's executives to learn more about the business.
Phillip Cook convinced the team to buy Iconix Brand Group
, a $1.6 billion market-cap company, to the portfolio in
March of last year. The company owns dozens of brands, including
Candie's, Mossimo, Rocawear, and Starter, that are sold by
retailers such as Wal-Mart Stores and Sears Holding Corp
. Iconix ranks behind Walt Disney as the
second-largest licensing company in the world.
Cook was attracted to the company's licensing model, which
limits its costs, and says the company was undervalued. Since
the end of March 2012, its shares are up approximately 33
percent, and Cook says the company has more room to run.
Another niche company, Hill-Rom Holdings, joined
Southern Sun's portfolio at the end of July. The $2 billion
company manufactures medical equipment like stretchers, hospital
beds and slings. The company's shares are up 37 percent since
dropping to a low of $25.30 on Aug. 2, and have risen 21 percent
in 2013 alone.
The Southern Sun Small Cap fund gained an annualized 25.3
percent over the three years ended Nov. 30, 2012, compared with
an average gain of 13 percent for small-cap core funds.
Mark Foster, a portfolio manager of the $58 million Kirr
Marbach Partners Value Fund, which won a Lipper Award
for multi-cap core funds, keeps about 30 percent of his
portfolio in small-cap stocks. Foster each week screens for
companies announcing management changes, reorganizations or
spin-offs. He then evaluates each company using traditional
valuation measures like price to earnings.
Foster recently began buying shares of Arris Group,
a $1.9 billion company that makes specialty equipment that
allows cable operators to carry more data and have faster speeds
on their broadband networks. On Dec. 19, the company announced a
$2.3 billion deal to purchase Google's Motorola Home
"We think that this is a misunderstood business," Foster
said, noting that a new generation of cable boxes will lead
companies and consumers to update their devices.
Foster has a price target of $26 per share, nearly a 50
percent premium to its current price of $17.81, based on his
expectation that the company will earn $2.15 per share this year
and trade at a multiple of 12.
The Kirr Marbach fund returned an annualized 19.7 percent
over the three years ended Nov. 30, 2012, compared with an
average gain of 9.89 percent among multi-cap core funds.
Bruce Aranow, a portfolio manager of the $1.1 billion
AllianceBernstein Small-Cap Growth fund, focuses on
companies that are growing faster than Wall Street expects.
"We can identify really well-run small companies that are on
their way to becoming mid and large companies. The ones that get
there faster than people expect are the ones that we make the
most money on," Aranow said.
As a result, Aranow often sells companies that report flat
or negative quarters, leading to an average turnover of 88
percent in his portfolio of about 100 companies.
But averages can be deceiving, Aranow said, citing a
position in Kirby Corp, a $4.3 billion inland barge
company that the fund has held for more than a decade. Aranow
recently added to his position in CoStar Group Inc, a
$2.7 billion market-cap company that provides data to the
commercial real estate industry. "This is an incredibly
defensible business," Aranow said, noting that it will continue
to improve as the real estate market rebounds.
He's also added to his stake in Lumber Liquidators Holdings
, a $1.7 billion market-cap company whose 43 percent
earnings per share growth are roughly double that of competitor
But his team is ready to sell should the rate of earnings
growth slow, he said. ""There's rarely a one-quarter problem in
the small-cap growth world, and mean reversion can be very
powerful," he said.
Aranow's fund returned an annualized 21.5 percent over the
three years through Nov. 30, compared with an average of 14.2
percent among small-cap growth funds over the same time.