Most mutual funds that invest in small-cap stocks tend to close to new investors as soon as the assets get to a point where it becomes harder to outperform the benchmark.
It’s not often you find a portfolio manager that invests $3.9 billion in small-cap stocks and delivers market-beating performance, but that’s what you get with Amy Zhang, who has run the Alger Small Cap Focus Fund (MUTF:AOFAX) since 2015.
Zhang’s performance is off the charts in 2019, up almost 32% year to date through July 22, nearly 10 percentage points higher than the Russell 2000 Growth Index, the fund’s benchmark.
Zhang uses a focused approach keeping her portfolio to 49 holdings, much less than the 1,239 in the benchmark. The median market cap is $3.67 billion; Zhang’s looking for stocks to buy that can become mid-cap stocks.
Here are 10 of the stocks Zhang currently holds that you might want to put on your watchlist.
Small-Cap Stocks to Buy: Canada Goose (GOOS)
The third-largest holding in AOFAX, Canada Goose (NYSE:GOOS) accounts for 3.15% of the portfolio. It’s down almost 6% year to date.
If you don’t know about Canada Goose’s parkas and other outdoor wear, you have likely spent the past couple of years living very close to the Equator where down jackets aren’t necessary.
I picked GOOS as my pick in InvestorPlace’s top stock picks of 2019. I’m currently in 8th place, well back of Louis Navellier, whose Lululemon (NASDAQ:LULU) pick was a timely one. The apparel brand continues to make all the right moves.
As for Canada Goose, its shares got clipped at the end of May when its earnings missed analyst expectations and it gave a conservative outlook for the remainder of the year.
CEO Dani Reiss is building the perfect three-legged stool of brick-and-mortar, wholesale, and e-commerce. This focus will drive its stock higher in the long haul.
In the meantime, investors should expect lots of volatility. GOOS and Lululemon are two of Canada’s greatest exports in recent years.
Five Below (FIVE)
The fourth-largest holding in AOFAX, Five Below (NASDAQ:FIVE) accounts for 3.14% of the portfolio. It’s up 25.7% year to date.
I originally recommended the discount chain’s stock in April 2017 when it was trading at $44, well below its current levels. I like its concept of selling products for $5 or less with a big focus on teens and pre-teens. It plans to open 2,000 stores over the next few years.
Morgan Stanley analyst Simeon Gutman recently resumed coverage of Five Below giving it an “overweight” rating and a $135 target price. The analyst sees FIVE generating significant free cash flow by the end of 2020 and beyond.
The best part: for every store it opens, it gets all of its investment back in less than a year, making it an excellent candidate based on return on capital invested.
The sixth-largest holding in AOFAX, Shopify (NYSE:SHOP) accounts for 2.93% of the portfolio. It’s up 154% year to date.
This is the problem with mutual funds. Because the holdings are listed as of the most recent quarter-end — April 30 for AOFAX — we have no way of knowing if Zhang has sold any of her holdings. We won’t know the latest holdings until it updates the portfolio at some point in August.
With the e-commerce platform up by more than double in just seven months, only those committed to holding the Canadian tech phenom for 2-3 years should consider buying at this point.
However, make no mistake. Shopify is the real deal.
Veeva Systems (VEEV)
The eighth-largest holding in AOFAX, Veeva Systems (NYSE:VEEV) accounts for 2.87% of the portfolio. It’s up 93% year to date.
Veeva helps life sciences companies manage all of their data and content on one platform, making the clinical trial process much more efficient. Given how complicated this process can be, anything that helps scientists and medical practitioners stay on course is a godsend.
By buying VEEV stock, you’re getting both a tech company and a health care business all wrapped up in one.
One way that it’s trying to keep growing is by broadening its portfolio of cloud-based products beyond the life sciences vertical into other industries. Using its Vault content management products, which currently account for almost half its revenue, look for it to take what it’s learned from life sciences and transfer this knowledge to companies other than healthcare.
Last August, I recommended VEEV as one of seven growth stocks to buy. It’s up 93% since then with plenty of gas in the tank to get to $200 and beyond.
The ninth-largest holding in AOFAX, Wingstop (NASDAQ:WING) accounts for 2.69% of the portfolio. It’s up 48% year to date.
Restaurant Business’s Peter Romeo recently interviewed Wingstop CEO Charlie Morrison about its business. Morrison, who has been CEO for the past seven years, discussed how the company is at an inflection point where technology is required to continue growing its business.
Morrison would like to see Wingstop become one of the world’s top 10 restaurant brands. Currently, it has annual sales of $1.3 billion; it’s the 45th largest company on Technomic’s Top 500 Restaurants list.
To improve service times, the company is looking to implement small holding stations so that customers can retrieve them without having to deal with an employee. It’s small technological advancements like this that will keep it growing.
Wingstop has grown same-store sales for 15 consecutive years, doing it in good times and bad. Look for it to expand its delivery business over the next 2-3 years.
The 11th-largest holding in AOFAX, Chegg (NASDAQ:CHGG) accounts for 2.63% of the portfolio. It’s up 52.7% year to date.
College graduates from 2007 through 2015 are most likely familiar with the company because of its printed textbook division, which rents and sells printed textbooks. However, in recent years, the company has moved toward a digitally-focused business that helps students stay on track through various solutions, including study and tutor programs.
Most of these digital services fall under its Chegg Services segment. In Q1 2019, this segment grew revenues by 34% compared to 7% for Required Services, the operating division that provides the printed textbooks.
I recently recommended CHGG as one of seven stocks that will make a student’s life easier.
Chegg is expected to make $0.56 a share in 2019 and $0.77 in 2020. With revenue growth of 20% or more for the foreseeable future (not to mention it competes in a desirable market), I could see CHGG stock hitting $100 in the next 12-24 months.
The 17th-largest holding in AOFAX, nLight (NASDAQ:LASR) accounts for 2.12% of the portfolio. It’s down 13.2% year to date.
Although I have heard of most of the companies in Zhang’s portfolio, I’m unfamiliar with nLight, a company that specializes in the development of high-powered laser technologies for end-user buyers. Serving many different industries in need of lasers that can cut and weld at high speed, nLight continues to grow its business outside North America.
Based in Vancouver, Washington, nLight’s 2018 revenues were $191 million, 38% higher than a year earlier. According to the company, it competes for a total addressable market of $2 billion, expected to grow to $4 billion by the end of 2020.
Over the past four years, the company has grown revenues by more than 30% a year while increasing gross margins from 25% in 2015 to 35% in 2018.
With zero debt and $142 million in cash on the balance sheet, LASR is an excellent combination of growth and value.
The 19th-largest holding in AOFAX, BlackLine (NASDAQ:BL) accounts for 2.05% of the portfolio. It’s up 20% year to date.
If you’re a corporate accountant, there’s a good chance you’ve heard of BL’s cloud-based financial automation software that helps companies keep accurate financial records. Recently, BlackLine’s Finance Controls and Automation Platform was named 2019’s “Accounting Automation Platform of the Year” by Corporate Vision Magazine.
More than 2,700 companies and 227,000 people use BlackLine’s platform. The company’s customers buy monthly subscriptions with 1-3-year terms. In the quarter ended March 31, its subscription and support revenue was $61.3 million, 26% higher than a year earlier.
Not yet profitable, it’s got to get to approximately $100 million in quarterly revenues before it turns into the black. Based on current growth rates, that should happen in the next 24-36 months.
Of all the stocks on this list, BL is the one with the most risk at this point in its development.
WisdomTree Investments (WETF)
The 35th-largest holding in AOFAX, WisdomTree Investments (NASDAQ:WETF) accounts for 1.64% of the portfolio. It’s down 4.1% year to date.
If you bought one of WisdomTree’s ETFs five years ago and also bought its stock, I can almost guarantee you would have done better with the ETF.
That’s because WisdomTree’s stock has had a miserable run over this period, down 6.6% on an annualized basis, including dividends. By comparison, the WisdomTree U.S. SmallCap Fund (NYSEARCA:EES) is up 7.2% over the same period.
What is the problem for the ETF provider? Its operating margins are shrinking.
In the three months ended March 31, it had an operating margin of 19.9%, 200 basis points lower than at the end of December and 600 basis points lower than a year earlier.
However, it’s important to remember that a significant amount of its operating expenses in recent quarters is the result of its April 2018 acquisition of ETF Securities’ European ETF business, which gave WisdomTree much greater scale in the European market.
The largest global independent ETF provider in terms of assets under management, WisdomTree’s stock is cheap under $7.
The 39th-largest holding in AOFAX, HealthEquity (NASDAQ:HQY) accounts for 1.23% of the portfolio. It’s up 36% year to date.
The Utah-based company specializes in providing HSA’s (Health Savings Accounts) for U.S. companies and their employees. It is currently the HSA platform for 141 health plans and 45,000 employers. Founded in 2002, the number of Healthequity’s HSA members at the end of April was 4.05 million people, up 17% from a year earlier.
It continues to be the go-to company for HSA’s.
It’s a big reason why I recommended the company in November 2017, calling it one of seven stocks to double your money. Despite declining by 15% since its selection, I can see why Zhang has included HQY in her portfolio.
HQY recently announced that it would acquire WageWorks (NYSE:WAGE), a leader in administering HSA’s for $2 billion. That’s a 28% premium on WageWorks’ stock based on the 30-day volume-weighted average closing price before the offer becoming public knowledge on April 30.
The move accelerates the company’s push into the HSA marketplace.
At the time of this writing Will Ashworth did not hold a position in any of the aforementioned securities.
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